To find a multi-bagger stock, what are the underlying trends we should look for in a business? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. So, when we ran our eye over Dongguan Yiheda Automation's (SZSE:301029) trend of ROCE, we really liked what we saw.

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

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Dongguan Yiheda Automation:

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

0.21 = CN¥625m ÷ (CN¥3.6b - CN¥604m) (Based on the trailing twelve months to December 2023).

Therefore, Dongguan Yiheda Automation has an ROCE of 21%. In absolute terms that's a great return and it's even better than the Machinery industry average of 5.6%.

In the above chart we have measured Dongguan Yiheda Automation'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 Dongguan Yiheda Automation for free.

What Can We Tell From Dongguan Yiheda Automation's ROCE Trend?

It's hard not to be impressed by Dongguan Yiheda Automation's returns on capital. The company has employed 480% more capital in the last five years, and the returns on that capital have remained stable at 21%. With returns that high, it's great that the business can continually reinvest its money at such appealing rates of return. You'll see this when looking at well operated businesses or favorable business models.

The Bottom Line

In short, we'd argue Dongguan Yiheda Automation has the makings of a multi-bagger since its been able to compound its capital at very profitable rates of return. However, despite the favorable fundamentals, the stock has fallen 53% over the last year, so there might be an opportunity here for astute investors. For that reason, savvy investors might want to look further into this company in case it's a prime investment.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 2 warning signs for Dongguan Yiheda Automation (of which 1 is potentially serious!) that you should know about.

High returns are a key ingredient to strong performance, so check out our free list ofstocks 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.

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