If you're looking for a multi-bagger, there's a few things to keep an eye out for. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at Hangzhou Honghua Digital Technology Stock (SHSE:688789), it didn't seem to tick all of these boxes.
Understanding Return On Capital Employed (ROCE)
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Hangzhou Honghua Digital Technology Stock, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.12 = CN¥370m ÷ (CN¥3.6b - CN¥547m) (Based on the trailing twelve months to March 2024).
Therefore, Hangzhou Honghua Digital Technology Stock has an ROCE of 12%. In absolute terms, that's a satisfactory return, but compared to the Machinery industry average of 6.2% it's much better.
Above you can see how the current ROCE for Hangzhou Honghua Digital Technology Stock compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Hangzhou Honghua Digital Technology Stock .
What Can We Tell From Hangzhou Honghua Digital Technology Stock's ROCE Trend?
On the surface, the trend of ROCE at Hangzhou Honghua Digital Technology Stock doesn't inspire confidence. Over the last five years, returns on capital have decreased to 12% from 26% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.
In Conclusion...
Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Hangzhou Honghua Digital Technology Stock. Furthermore the stock has climbed 15% over the last year, it would appear that investors are upbeat about the future. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.
If you'd like to know about the risks facing Hangzhou Honghua Digital Technology Stock, we've discovered 1 warning sign that you should be aware of.
While Hangzhou Honghua Digital Technology Stock may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.