Capital Allocation Trends At SFC Holdings (SZSE:301558) Aren't Ideal

There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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. In light of that, when we looked at SFC Holdings (SZSE:301558) and its ROCE trend, we weren't exactly thrilled.

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. Analysts use this formula to calculate it for SFC Holdings:

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

0.036 = CN¥50m ÷ (CN¥1.5b - CN¥104m) (Based on the trailing twelve months to September 2024).

So, SFC Holdings has an ROCE of 3.6%. On its own that's a low return on capital but it's in line with the industry's average returns of 3.9%.

View our latest analysis for SFC Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for SFC Holdings' ROCE against it's prior returns. If you'd like to look at how SFC Holdings has performed in the past in other metrics, you can view this free graph of SFC Holdings' past earnings, revenue and cash flow.

What Does the ROCE Trend For SFC Holdings Tell Us?

On the surface, the trend of ROCE at SFC Holdings doesn't inspire confidence. Over the last five years, returns on capital have decreased to 3.6% from 57% 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's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a side note, SFC Holdings has done well to pay down its current liabilities to 7.0% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. 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 Key Takeaway

In summary, SFC Holdings is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. And investors appear hesitant that the trends will pick up because the stock has fallen 36% in the last year. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.

One more thing: We've identified 5 warning signs with SFC Holdings (at least 3 which make us uncomfortable) , and understanding these would certainly be useful.

While SFC Holdings 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.

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.