What trends should we look for it we want to identify stocks that can multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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 Kunlun Energy (HKG:135) 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 Kunlun Energy, this is the formula:

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

0.12 = CN¥12b ÷ (CN¥142b - CN¥36b) (Based on the trailing twelve months to June 2024).

So, Kunlun Energy has an ROCE of 12%. On its own, that's a standard return, however it's much better than the 8.6% generated by the Gas Utilities industry.

In the above chart we have measured Kunlun Energy'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 Kunlun Energy .

What Does the ROCE Trend For Kunlun Energy Tell Us?

Over the past five years, Kunlun Energy's ROCE and capital employed have both remained mostly flat. It's not uncommon to see this when looking at a mature and stable business that isn't re-investing its earnings because it has likely passed that phase of the business cycle. So unless we see a substantial change at Kunlun Energy in terms of ROCE and additional investments being made, we wouldn't hold our breath on it being a multi-bagger. With fewer investment opportunities, it makes sense that Kunlun Energy has been paying out a decent 45% of its earnings to shareholders. Unless businesses have highly compelling growth opportunities, they'll typically return some money to shareholders.

The Bottom Line

In summary, Kunlun Energy isn't compounding its earnings but is generating stable returns on the same amount of capital employed. Yet to long term shareholders the stock has gifted them an incredible 112% return in the last five years, so the market appears to be rosy about its future. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

One more thing, we've spotted 1 warning sign facing Kunlun Energy that you might find interesting.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive 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.