If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount 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 Guangzhou Hengyun Enterprises Holding (SZSE:000531) and its ROCE trend, we weren't exactly thrilled.

Understanding Return On Capital Employed (ROCE)

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. The formula for this calculation on Guangzhou Hengyun Enterprises Holding is:

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

0.023 = CN¥331m ÷ (CN¥19b - CN¥4.8b) (Based on the trailing twelve months to June 2024).

So, Guangzhou Hengyun Enterprises Holding has an ROCE of 2.3%. Ultimately, that's a low return and it under-performs the Renewable Energy industry average of 5.6%.

Above you can see how the current ROCE for Guangzhou Hengyun Enterprises Holding compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for Guangzhou Hengyun Enterprises Holding .

How Are Returns Trending?

Unfortunately, the trend isn't great with ROCE falling from 7.6% five years ago, while capital employed has grown 187%. Usually this isn't ideal, but given Guangzhou Hengyun Enterprises Holding conducted a capital raising before their most recent earnings announcement, that would've likely contributed, at least partially, to the increased capital employed figure. Guangzhou Hengyun Enterprises Holding probably hasn't received a full year of earnings yet from the new funds it raised, so these figures should be taken with a grain of salt.

On a side note, Guangzhou Hengyun Enterprises Holding has done well to pay down its current liabilities to 25% of total assets. That could partly explain why the ROCE has dropped. 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.

The Bottom Line

In summary, despite lower returns in the short term, we're encouraged to see that Guangzhou Hengyun Enterprises Holding is reinvesting for growth and has higher sales as a result. These trends are starting to be recognized by investors since the stock has delivered a 8.0% gain to shareholders who've held over the last five years. So this stock may still be an appealing investment opportunity, if other fundamentals prove to be sound.

Guangzhou Hengyun Enterprises Holding does come with some risks though, we found 4 warning signs in our investment analysis, and 1 of those makes us a bit uncomfortable...

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.