Golden Power Group Holdings (HKG:3919) Is Reinvesting At Lower Rates Of Return

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Although, when we looked at Golden Power Group Holdings (HKG:3919), it didn't seem to tick all of these boxes.

What Is Return On Capital Employed (ROCE)?

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. To calculate this metric for Golden Power Group Holdings, this is the formula:

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

0.0096 = HK$3.3m ÷ (HK$690m - HK$345m) (Based on the trailing twelve months to June 2022).

So, Golden Power Group Holdings has an ROCE of 1.0%. Ultimately, that's a low return and it under-performs the Electrical industry average of 7.1%.

See our latest analysis for Golden Power Group Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for Golden Power Group Holdings' ROCE against it's prior returns. If you'd like to look at how Golden Power Group Holdings has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at Golden Power Group Holdings doesn't inspire confidence. Over the last five years, returns on capital have decreased to 1.0% from 15% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. 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.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 50%, which has impacted the ROCE. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. And with current liabilities at these levels, suppliers or short-term creditors are effectively funding a large part of the business, which can introduce some risks.

What We Can Learn From Golden Power Group Holdings' ROCE

Bringing it all together, while we're somewhat encouraged by Golden Power Group Holdings' reinvestment in its own business, we're aware that returns are shrinking. Moreover, since the stock has crumbled 81% over the last five years, it appears investors are expecting the worst. Therefore based on the analysis done in this article, we don't think Golden Power Group Holdings has the makings of a multi-bagger.

Golden Power Group Holdings does have some risks though, and we've spotted 3 warning signs for Golden Power Group Holdings that you might be interested in.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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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.