If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. In light of that, when we looked at Yechiu Metal Recycling (China) (SHSE:601388) and its ROCE trend, we weren't exactly thrilled.
Understanding Return On Capital Employed (ROCE)
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on Yechiu Metal Recycling (China) is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.042 = CN¥200m ÷ (CN¥5.7b - CN¥918m) (Based on the trailing twelve months to March 2024).
Thus, Yechiu Metal Recycling (China) has an ROCE of 4.2%. Ultimately, that's a low return and it under-performs the Metals and Mining industry average of 6.7%.
In the above chart we have measured Yechiu Metal Recycling (China)'s prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Yechiu Metal Recycling (China) for free.
How Are Returns Trending?
In terms of Yechiu Metal Recycling (China)'s historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 7.0% over the last five years. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.
On a related note, Yechiu Metal Recycling (China) has decreased its current liabilities to 16% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.
The Bottom Line On Yechiu Metal Recycling (China)'s ROCE
We're a bit apprehensive about Yechiu Metal Recycling (China) because despite more capital being deployed in the business, returns on that capital and sales have both fallen. However the stock has delivered a 54% return to shareholders over the last five years, so investors might be expecting the trends to turn around. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.
One more thing to note, we've identified 1 warning sign with Yechiu Metal Recycling (China) and understanding this should be part of your investment process.
While Yechiu Metal Recycling (China) isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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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.