Here's What's Concerning About China Communications Construction's (HKG:1800) Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after briefly looking over the numbers, we don't think China Communications Construction (HKG:1800) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Return On Capital Employed (ROCE): What is it?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on China Communications Construction is:

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

0.05 = CN¥40b ÷ (CN¥1.5t - CN¥682b) (Based on the trailing twelve months to September 2021).

Thus, China Communications Construction has an ROCE of 5.0%. Ultimately, that's a low return and it under-performs the Construction industry average of 7.8%.

View our latest analysis for China Communications Construction

Above you can see how the current ROCE for China Communications Construction compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering China Communications Construction here for free.

How Are Returns Trending?

When we looked at the ROCE trend at China Communications Construction, we didn't gain much confidence. Around five years ago the returns on capital were 6.7%, but since then they've fallen to 5.0%. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

Another thing to note, China Communications Construction has a high ratio of current liabilities to total assets of 46%. 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. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On China Communications Construction's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that China Communications Construction is reinvesting for growth and has higher sales as a result. However, despite the promising trends, the stock has fallen 44% over the last five years, so there might be an opportunity here for astute investors. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

One more thing: We've identified 2 warning signs with China Communications Construction (at least 1 which is a bit unpleasant) , and understanding them would certainly be useful.

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

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.

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