If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Dongguan Aohai Technology (SZSE:002993) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What Is 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. The formula for this calculation on Dongguan Aohai Technology is:

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

0.075 = CN¥395m ÷ (CN¥8.5b - CN¥3.3b) (Based on the trailing twelve months to June 2024).

So, Dongguan Aohai Technology has an ROCE of 7.5%. On its own that's a low return, but compared to the average of 5.7% generated by the Tech industry, it's much better.

In the above chart we have measured Dongguan Aohai Technology'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 Aohai Technology for free.

How Are Returns Trending?

On the surface, the trend of ROCE at Dongguan Aohai Technology doesn't inspire confidence. To be more specific, ROCE has fallen from 24% over the last five years. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Dongguan Aohai Technology has done well to pay down its current liabilities to 39% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. 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...

While returns have fallen for Dongguan Aohai Technology in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. These growth trends haven't led to growth returns though, since the stock has fallen 19% over the last three years. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

On a final note, we found 2 warning signs for Dongguan Aohai Technology (1 doesn't sit too well with us) you should be aware of.

While Dongguan Aohai Technology 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.