Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. Ultimately, this demonstrates that it’s a business that is reinvesting profits at increasing rates of return. Having said that, from a first glance at Sunny Optical Technology (Group) (HKG:2382) we aren’t jumping out of our chairs at how returns are trending, but let’s have a deeper look.
Return On Capital Employed (ROCE): What is it?
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. Analysts use this formula to calculate it for Sunny Optical Technology (Group):
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.19 = CN¥5.1b ÷ (CN¥39b – CN¥12b) (Based on the trailing twelve months to December 2021).
So, Sunny Optical Technology (Group) has an ROCE of 19%. In absolute terms, that’s a satisfactory return, but compared to the Electronic industry average of 6.0% it’s much better.
View our latest analysis for Sunny Optical Technology (Group)
In the above chart we have measured Sunny Optical Technology (Group)’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 report on analyst forecasts for the company.
What Can We Tell From Sunny Optical Technology (Group)’s ROCE Trend?
When we looked at the ROCE trend at Sunny Optical Technology (Group), we didn’t gain much confidence. Over the last five years, returns on capital have decreased to 19% from 30% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.
On a related note, Sunny Optical Technology (Group) has decreased its current liabilities to 31% of total assets. So we could link some of this to the decrease in ROCE. What’s more, this can reduce some aspects of risk to the business because now the company’s suppliers or short-term creditors are funding less of its operations. 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
To conclude, we’ve found that Sunny Optical Technology (Group) is reinvesting in the business, but returns have been falling. Since the stock has gained an impressive 90% over the last five years, investors must think there’s better things to come. Ultimately, if the underlying trends persist, we wouldn’t hold our breath on it being a multi-bagger going forward.
If you want to continue researching Sunny Optical Technology (Group), you might be interested to know about the 1 warning sign that our analysis has discovered.
While Sunny Optical Technology (Group) isn’t earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.