What trends should we look for it we want to identify stocks that can multiply in value over the long term? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. So on that note, Shanxi Huhua Group (SZSE:003002) looks quite promising in regards to its trends of return on capital.
What Is Return On Capital Employed (ROCE)?
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Shanxi Huhua Group, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.14 = CN¥217m ÷ (CN¥1.9b - CN¥394m) (Based on the trailing twelve months to September 2023).
So, Shanxi Huhua Group has an ROCE of 14%. On its own, that's a standard return, however it's much better than the 5.6% generated by the Chemicals industry.
In the above chart we have measured Shanxi Huhua Group'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 Shanxi Huhua Group for free.
How Are Returns Trending?
The trends we've noticed at Shanxi Huhua Group are quite reassuring. The data shows that returns on capital have increased substantially over the last five years to 14%. Basically the business is earning more per dollar of capital invested and in addition to that, 160% more capital is being employed now too. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.
The Bottom Line
In summary, it's great to see that Shanxi Huhua Group can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. Investors may not be impressed by the favorable underlying trends yet because over the last three years the stock has only returned 4.6% to shareholders. So with that in mind, we think the stock deserves further research.
One more thing, we've spotted 2 warning signs facing Shanxi Huhua Group that you might find interesting.
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.