There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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. Speaking of which, we noticed some great changes in Kaishan Group's (SZSE:300257) returns on capital, so let's have a look.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Kaishan Group:

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

0.067 = CN¥572m ÷ (CN¥15b - CN¥6.1b) (Based on the trailing twelve months to June 2024).

Therefore, Kaishan Group has an ROCE of 6.7%. On its own, that's a low figure but it's around the 5.7% average generated by the Machinery industry.

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how Kaishan Group has performed in the past in other metrics, you can view this free graph of Kaishan Group's past earnings, revenue and cash flow.

How Are Returns Trending?

We're glad to see that ROCE is heading in the right direction, even if it is still low at the moment. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 6.7%. The amount of capital employed has increased too, by 68%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

Another thing to note, Kaishan Group has a high ratio of current liabilities to total assets of 42%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

What We Can Learn From Kaishan Group's ROCE

A company that is growing its returns on capital and can consistently reinvest in itself is a highly sought after trait, and that's what Kaishan Group has. Given the stock has declined 25% in the last five years, this could be a good investment if the valuation and other metrics are also appealing. With that in mind, we believe the promising trends warrant this stock for further investigation.

On a final note, we found 2 warning signs for Kaishan Group (1 is significant) you should be aware of.

While Kaishan Group 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.