If we want to find a stock that could multiply over the long term, what are the underlying trends we should look 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. In light of that, when we looked at CGN Power (HKG:1816) and its ROCE trend, we weren't exactly thrilled.
What Is Return On Capital Employed (ROCE)?
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. To calculate this metric for CGN Power, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.071 = CN¥24b ÷ (CN¥422b - CN¥83b) (Based on the trailing twelve months to September 2024).
So, CGN Power has an ROCE of 7.1%. Even though it's in line with the industry average of 6.9%, it's still a low return by itself.
Check out our latest analysis for CGN Power
Above you can see how the current ROCE for CGN Power compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for CGN Power .
The Trend Of ROCE
Things have been pretty stable at CGN Power, with its capital employed and returns on that capital staying somewhat the same for the last five years. 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 CGN Power in terms of ROCE and additional investments being made, we wouldn't hold our breath on it being a multi-bagger. This probably explains why CGN Power is paying out 46% of its income to shareholders in the form of dividends. Given the business isn't reinvesting in itself, it makes sense to distribute a portion of earnings among shareholders.
In Conclusion...
In a nutshell, CGN Power has been trudging along with the same returns from the same amount of capital over the last five years. Although the market must be expecting these trends to improve because the stock has gained 78% over the last five years. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.
CGN Power does have some risks though, and we've spotted 1 warning sign for CGN Power that you might be interested in.
While CGN Power 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.