Some Investors May Be Worried About Gain Plus Holdings' (HKG:9900) Returns On Capital

There are a few key trends to look for if we want to identify the next 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Gain Plus Holdings (HKG:9900) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Gain Plus Holdings, this is the formula:

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

0.15 = HK$33m ÷ (HK$294m - HK$76m) (Based on the trailing twelve months to March 2021).

Therefore, Gain Plus Holdings has an ROCE of 15%. In absolute terms, that's a satisfactory return, but compared to the Construction industry average of 7.4% it's much better.

Check out our latest analysis for Gain Plus Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for Gain Plus Holdings' ROCE against it's prior returns. If you're interested in investigating Gain Plus Holdings' past further, check out this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

In terms of Gain Plus Holdings' historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 15% from 39% 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.

On a side note, Gain Plus Holdings has done well to pay down its current liabilities to 26% 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. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Bottom Line On Gain Plus Holdings' ROCE

Bringing it all together, while we're somewhat encouraged by Gain Plus Holdings' reinvestment in its own business, we're aware that returns are shrinking. Investors must think there's better things to come because the stock has knocked it out of the park, delivering a 114% gain to shareholders who have held over the last three years. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

One final note, you should learn about the 3 warning signs we've spotted with Gain Plus Holdings (including 1 which is concerning) .

While Gain Plus 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. 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.
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