Here's What To Make Of Gain Plus Holdings' (HKG:9900) Returns On Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount 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. Having said that, while the ROCE is currently high for Gain Plus Holdings (HKG:9900), we aren't jumping out of our chairs because returns are decreasing.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on Gain Plus Holdings is:

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

0.22 = HK$46m ÷ (HK$301m - HK$93m) (Based on the trailing twelve months to September 2020).

So, Gain Plus Holdings has an ROCE of 22%. That's a fantastic return and not only that, it outpaces the average of 10% earned by companies in a similar industry.

View our latest analysis for Gain Plus Holdings

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're interested in investigating Gain Plus Holdings' past further, check out this free graph of past earnings, revenue and cash flow.

The Trend Of ROCE

In terms of Gain Plus Holdings' historical ROCE movements, the trend isn't fantastic. To be more specific, while the ROCE is still high, it's fallen from 50% where it was four years ago. And considering revenue has dropped while employing more capital, we'd be cautious. 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, Gain Plus Holdings has decreased its current liabilities to 31% of total assets. That could partly explain why the ROCE has dropped. 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 Bottom Line On Gain Plus Holdings' ROCE

From the above analysis, we find it rather worrisome that returns on capital and sales for Gain Plus Holdings have fallen, meanwhile the business is employing more capital than it was four years ago. Long term shareholders who've owned the stock over the last year have experienced a 25% depreciation in their investment, so it appears the market might not like these trends either. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

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

If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning high returns on equity.

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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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