Some Investors May Be Worried About Guoco Group's (HKG:53) Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. However, after investigating Guoco Group (HKG:53), 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 Guoco Group is:

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

0.023 = US$365m ÷ (US$17b - US$1.7b) (Based on the trailing twelve months to December 2021).

Therefore, Guoco Group has an ROCE of 2.3%. In absolute terms, that's a low return and it also under-performs the Industrials industry average of 3.4%.

View our latest analysis for Guoco Group

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 Guoco Group, check out these free graphs here.

How Are Returns Trending?

On the surface, the trend of ROCE at Guoco Group doesn't inspire confidence. Over the last five years, returns on capital have decreased to 2.3% from 3.0% five years ago. 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. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Guoco Group has done well to pay down its current liabilities to 9.8% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

In Conclusion...

In summary, despite lower returns in the short term, we're encouraged to see that Guoco Group is reinvesting for growth and has higher sales as a result. In light of this, the stock has only gained 6.6% over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

If you want to continue researching Guoco Group, you might be interested to know about the 1 warning sign that our analysis has discovered.

While Guoco 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.