What are the early trends we should look for to identify a stock that could multiply in value over the long term? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So when we looked at China XD Electric (SHSE:601179) and its trend of ROCE, we really liked what we saw.

What Is 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. Analysts use this formula to calculate it for China XD Electric:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.034 = CN¥894m ÷ (CN¥44b - CN¥17b) (Based on the trailing twelve months to March 2024).

So, China XD Electric has an ROCE of 3.4%. Ultimately, that's a low return and it under-performs the Electrical industry average of 6.0%.

Above you can see how the current ROCE for China XD Electric compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering China XD Electric for free.

What Does the ROCE Trend For China XD Electric Tell Us?

Even though ROCE is still low in absolute terms, it's good to see it's heading in the right direction. Looking at the data, we can see that even though capital employed in the business has remained relatively flat, the ROCE generated has risen by 143% over the last five years. Basically the business is generating higher returns from the same amount of capital and that is proof that there are improvements in the company's efficiencies. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.

The Bottom Line On China XD Electric's ROCE

As discussed above, China XD Electric appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 93% return over the last five years. In light of that, we think it's worth looking further into this stock because if China XD Electric can keep these trends up, it could have a bright future ahead.

One more thing, we've spotted 1 warning sign facing China XD Electric that you might find interesting.

While China XD Electric 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.