There Are Reasons To Feel Uneasy About Prinx Chengshan Holdings' (HKG:1809) Returns On Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding 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. However, after investigating Prinx Chengshan Holdings (HKG:1809), we don't think it's current trends fit the mold of a multi-bagger.

Understanding Return On Capital Employed (ROCE)

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Prinx Chengshan Holdings, this is the formula:

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

0.10 = CN¥559m ÷ (CN¥10b - CN¥4.7b) (Based on the trailing twelve months to June 2023).

So, Prinx Chengshan Holdings has an ROCE of 10%. On its own, that's a standard return, however it's much better than the 7.5% generated by the Auto Components industry.

Check out our latest analysis for Prinx Chengshan Holdings

In the above chart we have measured Prinx Chengshan Holdings' prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Prinx Chengshan Holdings.

What Can We Tell From Prinx Chengshan Holdings' ROCE Trend?

On the surface, the trend of ROCE at Prinx Chengshan Holdings doesn't inspire confidence. To be more specific, ROCE has fallen from 19% over the last five years. However it looks like Prinx Chengshan Holdings might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. 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 separate but related note, it's important to know that Prinx Chengshan Holdings has a current liabilities to total assets ratio of 46%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

In Conclusion...

Bringing it all together, while we're somewhat encouraged by Prinx Chengshan Holdings' reinvestment in its own business, we're aware that returns are shrinking. Unsurprisingly, the stock has only gained 36% over the last five years, which potentially indicates that investors are accounting for this going forward. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.

One more thing to note, we've identified 1 warning sign with Prinx Chengshan Holdings and understanding it should be part of your investment process.

While Prinx Chengshan Holdings isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.