If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Having said that, from a first glance at Shenzhen Xinyichang Technology (SHSE:688383) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper 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. To calculate this metric for Shenzhen Xinyichang Technology, this is the formula:

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

0.054 = CN¥84m ÷ (CN¥2.9b - CN¥1.3b) (Based on the trailing twelve months to September 2024).

Therefore, Shenzhen Xinyichang Technology has an ROCE of 5.4%. Even though it's in line with the industry average of 4.8%, it's still a low return by itself.

In the above chart we have measured Shenzhen Xinyichang Technology's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Shenzhen Xinyichang Technology .

The Trend Of ROCE

When we looked at the ROCE trend at Shenzhen Xinyichang Technology, we didn't gain much confidence. To be more specific, ROCE has fallen from 24% over the last five years. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a separate but related note, it's important to know that Shenzhen Xinyichang Technology has a current liabilities to total assets ratio of 46%, which we'd consider pretty high. 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. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Key Takeaway

Bringing it all together, while we're somewhat encouraged by Shenzhen Xinyichang Technology's reinvestment in its own business, we're aware that returns are shrinking. And in the last three years, the stock has given away 56% so the market doesn't look too hopeful on these trends strengthening any time soon. Therefore based on the analysis done in this article, we don't think Shenzhen Xinyichang Technology has the makings of a multi-bagger.

One more thing to note, we've identified 2 warning signs with Shenzhen Xinyichang Technology and understanding these should be part of your investment process.

While Shenzhen Xinyichang 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.