Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. In light of that, when we looked at Shanghai Zhonggu Logistics (SHSE:603565) and its ROCE trend, we weren't exactly thrilled.

Return On Capital Employed (ROCE): What Is It?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Shanghai Zhonggu Logistics, this is the formula:

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

0.062 = CN¥1.1b ÷ (CN¥24b - CN¥5.5b) (Based on the trailing twelve months to March 2024).

So, Shanghai Zhonggu Logistics has an ROCE of 6.2%. In absolute terms, that's a low return and it also under-performs the Shipping industry average of 7.8%.

In the above chart we have measured Shanghai Zhonggu Logistics' 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 Shanghai Zhonggu Logistics for free.

What Can We Tell From Shanghai Zhonggu Logistics' ROCE Trend?

When we looked at the ROCE trend at Shanghai Zhonggu Logistics, we didn't gain much confidence. To be more specific, ROCE has fallen from 15% over the last five years. Given the business is employing more capital while revenue has slipped, this is a bit concerning. 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 side note, Shanghai Zhonggu Logistics has done well to pay down its current liabilities to 23% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

In Conclusion...

We're a bit apprehensive about Shanghai Zhonggu Logistics because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Investors haven't taken kindly to these developments, since the stock has declined 22% from where it was three years ago. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

If you want to know some of the risks facing Shanghai Zhonggu Logistics we've found 3 warning signs (2 make us uncomfortable!) that you should be aware of before investing here.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com