What We Make Of China State Construction Development Holdings' (HKG:830) Returns On Capital

There are a few key trends to look for if we want to identify the next multi-bagger. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So on that note, China State Construction Development Holdings (HKG:830) looks quite promising in regards to its trends of return on capital.

Understanding 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. The formula for this calculation on China State Construction Development Holdings is:

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

0.11 = HK$276m ÷ (HK$6.9b - HK$4.4b) (Based on the trailing twelve months to June 2020).

So, China State Construction Development Holdings has an ROCE of 11%. That's a relatively normal return on capital, and it's around the 12% generated by the Building industry.

Check out our latest analysis for China State Construction Development Holdings

In the above chart we have measured China State Construction Development Holdings' prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering China State Construction Development Holdings here for free.

What The Trend Of ROCE Can Tell Us

Investors would be pleased with what's happening at China State Construction Development Holdings. The data shows that returns on capital have increased substantially over the last five years to 11%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 102%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. Essentially the business now has suppliers or short-term creditors funding about 63% of its operations, which isn't ideal. Given it's pretty high ratio, we'd remind investors that having current liabilities at those levels can bring about some risks in certain businesses.

In Conclusion...

All in all, it's terrific to see that China State Construction Development Holdings is reaping the rewards from prior investments and is growing its capital base. Given the stock has declined 44% in the last five years, this could be a good investment if the valuation and other metrics are also appealing. That being the case, research into the company's current valuation metrics and future prospects seems fitting.

One more thing to note, we've identified 2 warning signs with China State Construction Development Holdings and understanding them should be part of your investment process.

While China State Construction Development Holdings 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. 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.
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