AviChina Industry & Technology (HKG:2357) Might Be Having Difficulty Using Its Capital Effectively

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at AviChina Industry & Technology (HKG:2357), it didn't seem to tick all of these boxes.

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 AviChina Industry & Technology:

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

0.056 = CN¥5.5b ÷ (CN¥186b - CN¥87b) (Based on the trailing twelve months to June 2024).

Therefore, AviChina Industry & Technology has an ROCE of 5.6%. In absolute terms, that's a low return but it's around the Aerospace & Defense industry average of 6.9%.

View our latest analysis for AviChina Industry & Technology

In the above chart we have measured AviChina Industry & Technology's 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 analyst report for AviChina Industry & Technology .

How Are Returns Trending?

On the surface, the trend of ROCE at AviChina Industry & Technology doesn't inspire confidence. Over the last five years, returns on capital have decreased to 5.6% from 7.5% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

Another thing to note, AviChina Industry & Technology has a high ratio of current liabilities to total assets of 47%. 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.

Our Take On AviChina Industry & Technology's ROCE

In summary, we're somewhat concerned by AviChina Industry & Technology's diminishing returns on increasing amounts of capital. In spite of that, the stock has delivered a 21% return to shareholders who held over the last five years. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.

AviChina Industry & Technology could be trading at an attractive price in other respects, so you might find our free intrinsic value estimation for 2357 on our platform quite valuable.

While AviChina Industry & Technology 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.