Capital Allocation Trends At Dragon Rise Group Holdings (HKG:6829) Aren't Ideal

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Having said that, from a first glance at Dragon Rise Group Holdings (HKG:6829) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Return On Capital Employed (ROCE): What Is It?

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 Dragon Rise Group Holdings is:

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

0.0029 = HK$752k ÷ (HK$298m - HK$43m) (Based on the trailing twelve months to March 2022).

Thus, Dragon Rise Group Holdings has an ROCE of 0.3%. In absolute terms, that's a low return and it also under-performs the Construction industry average of 7.1%.

See our latest analysis for Dragon Rise Group Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for Dragon Rise Group Holdings' ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Dragon Rise Group Holdings, check out these free graphs here.

What Does the ROCE Trend For Dragon Rise Group Holdings Tell Us?

When we looked at the ROCE trend at Dragon Rise Group Holdings, we didn't gain much confidence. To be more specific, ROCE has fallen from 49% over the last five years. Given the business is employing more capital while revenue has slipped, this is a bit concerning. 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.

On a related note, Dragon Rise Group Holdings has decreased its current liabilities to 14% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Key Takeaway

We're a bit apprehensive about Dragon Rise Group Holdings because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Despite the concerning underlying trends, the stock has actually gained 10% over the last three years, so it might be that the investors are expecting the trends to reverse. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 2 warning signs for Dragon Rise Group Holdings (of which 1 makes us a bit uncomfortable!) that you should know about.

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.