Returns On Capital Signal Tricky Times Ahead For Huazhong In-Vehicle Holdings (HKG:6830)

If you're looking for a multi-bagger, there's a few things to keep an eye out for. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount 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 Huazhong In-Vehicle Holdings (HKG:6830) and its ROCE trend, we weren't exactly thrilled.

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 Huazhong In-Vehicle Holdings:

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

0.015 = CN¥22m ÷ (CN¥3.3b - CN¥1.9b) (Based on the trailing twelve months to December 2021).

So, Huazhong In-Vehicle Holdings has an ROCE of 1.5%. In absolute terms, that's a low return and it also under-performs the Auto Components industry average of 5.3%.

See our latest analysis for Huazhong In-Vehicle Holdings

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you want to delve into the historical earnings, revenue and cash flow of Huazhong In-Vehicle Holdings, check out these free graphs here.

How Are Returns Trending?

In terms of Huazhong In-Vehicle Holdings' historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 16%, but since then they've fallen to 1.5%. However it looks like Huazhong In-Vehicle 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 Huazhong In-Vehicle Holdings has a current liabilities to total assets ratio of 57%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

Our Take On Huazhong In-Vehicle Holdings' ROCE

In summary, Huazhong In-Vehicle Holdings is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Yet to long term shareholders the stock has gifted them an incredible 217% return in the last five years, so the market appears to be rosy about its future. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

One final note, you should learn about the 4 warning signs we've spotted with Huazhong In-Vehicle Holdings (including 2 which make us uncomfortable) .

While Huazhong In-Vehicle 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.

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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.