If you're looking for a multi-bagger, there's a few things to keep an eye out for. 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. Although, when we looked at Hangzhou Electronic Soul Network Technology (SHSE:603258), it didn't seem to tick all of these boxes.

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. The formula for this calculation on Hangzhou Electronic Soul Network Technology is:

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

0.022 = CN¥49m ÷ (CN¥2.7b - CN¥452m) (Based on the trailing twelve months to September 2024).

Therefore, Hangzhou Electronic Soul Network Technology has an ROCE of 2.2%. Ultimately, that's a low return and it under-performs the Entertainment industry average of 5.3%.

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Hangzhou Electronic Soul Network Technology's past further, check out this free graph covering Hangzhou Electronic Soul Network Technology's past earnings, revenue and cash flow.

The Trend Of ROCE

When we looked at the ROCE trend at Hangzhou Electronic Soul Network Technology, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 2.2% from 8.8% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

The Key Takeaway

We're a bit apprehensive about Hangzhou Electronic Soul Network Technology because despite more capital being deployed in the business, returns on that capital and sales have both fallen. It should come as no surprise then that the stock has fallen 21% over the last five years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 4 warning signs for Hangzhou Electronic Soul Network Technology (of which 1 is potentially serious!) that you should know about.

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.