If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. So on that note, China Carbon Neutral Development Group (HKG:1372) looks quite promising in regards to its trends of return on capital.
Understanding Return On Capital Employed (ROCE)
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for China Carbon Neutral Development Group:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.11 = HK$23m ÷ (HK$492m - HK$272m) (Based on the trailing twelve months to December 2023).
Thus, China Carbon Neutral Development Group has an ROCE of 11%. On its own, that's a standard return, however it's much better than the 5.2% generated by the Auto Components industry.
Check out our latest analysis for China Carbon Neutral Development Group
Historical performance is a great place to start when researching a stock so above you can see the gauge for China Carbon Neutral Development Group's ROCE against it's prior returns. If you want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of China Carbon Neutral Development Group.
What The Trend Of ROCE Can Tell Us
We're delighted to see that China Carbon Neutral Development Group is reaping rewards from its investments and has now broken into profitability. The company was generating losses five years ago, but now it's turned around, earning 11% which is no doubt a relief for some early shareholders. In regards to capital employed, China Carbon Neutral Development Group is using 73% less capital than it was five years ago, which on the surface, can indicate that the business has become more efficient at generating these returns. This could potentially mean that the company is selling some of its assets.
On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Essentially the business now has suppliers or short-term creditors funding about 55% of its operations, which isn't ideal. Given it's pretty high ratio, we'd remind investors that having current liabilities at those levels can bring about some risks in certain businesses.
The Key Takeaway
In summary, it's great to see that China Carbon Neutral Development Group has been able to turn things around and earn higher returns on lower amounts of capital. However the stock is down a substantial 90% in the last five years so there could be other areas of the business hurting its prospects. In any case, we believe the economic trends of this company are positive and looking into the stock further could prove rewarding.
Like most companies, China Carbon Neutral Development Group does come with some risks, and we've found 2 warning signs that you should be aware of.
While China Carbon Neutral Development 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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com