Some Investors May Be Worried About Greentown Management Holdings' (HKG:9979) Returns On Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, 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. In light of that, when we looked at Greentown Management Holdings (HKG:9979) and its ROCE trend, we weren't exactly thrilled.

Understanding 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 Greentown Management Holdings is:

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

0.19 = CN¥761m ÷ (CN¥6.2b - CN¥2.1b) (Based on the trailing twelve months to December 2022).

Thus, Greentown Management Holdings has an ROCE of 19%. In absolute terms, that's a satisfactory return, but compared to the Construction industry average of 6.0% it's much better.

View our latest analysis for Greentown Management Holdings

In the above chart we have measured Greentown Management 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 Greentown Management Holdings here for free.

So How Is Greentown Management Holdings' ROCE Trending?

When we looked at the ROCE trend at Greentown Management Holdings, we didn't gain much confidence. Around five years ago the returns on capital were 58%, but since then they've fallen to 19%. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a related note, Greentown Management Holdings has decreased its current liabilities to 34% 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 Bottom Line

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Greentown Management Holdings. And long term investors must be optimistic going forward because the stock has returned a huge 104% to shareholders in the last three years. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.

On a final note, we've found 1 warning sign for Greentown Management Holdings that we think you should be aware of.

While Greentown Management 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.