China Pipe Group (HKG:380) May Have Issues Allocating Its Capital

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. However, after investigating China Pipe Group (HKG:380), we don't think it's current trends fit the mold of a multi-bagger.

What is 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. The formula for this calculation on China Pipe Group is:

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

0.071 = HK$49m ÷ (HK$858m - HK$172m) (Based on the trailing twelve months to June 2021).

Therefore, China Pipe Group has an ROCE of 7.1%. On its own that's a low return, but compared to the average of 4.9% generated by the Trade Distributors industry, it's much better.

See our latest analysis for China Pipe Group

Historical performance is a great place to start when researching a stock so above you can see the gauge for China Pipe Group's ROCE against it's prior returns. If you're interested in investigating China Pipe Group's past further, check out this free graph of past earnings, revenue and cash flow.

How Are Returns Trending?

On the surface, the trend of ROCE at China Pipe Group doesn't inspire confidence. Around five years ago the returns on capital were 12%, but since then they've fallen to 7.1%. 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.

In Conclusion...

In summary, despite lower returns in the short term, we're encouraged to see that China Pipe Group is reinvesting for growth and has higher sales as a result. However, despite the promising trends, the stock has fallen 53% over the last five years, so there might be an opportunity here for astute investors. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

If you want to know some of the risks facing China Pipe Group we've found 2 warning signs (1 shouldn't be ignored!) that you should be aware of before investing here.

While China Pipe Group 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.