Should We Be Excited About The Trends Of Returns At Hong Kong Johnson Holdings (HKG:1955)?

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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 Hong Kong Johnson Holdings (HKG:1955) and its ROCE trend, we weren't exactly thrilled.

Return On Capital Employed (ROCE): What is it?

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. To calculate this metric for Hong Kong Johnson Holdings, this is the formula:

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

0.14 = HK$47m ÷ (HK$686m - HK$344m) (Based on the trailing twelve months to March 2020).

Therefore, Hong Kong Johnson Holdings has an ROCE of 14%. On its own, that's a standard return, however it's much better than the 9.9% generated by the Commercial Services industry.

View our latest analysis for Hong Kong Johnson Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for Hong Kong Johnson Holdings' ROCE against it's prior returns. If you'd like to look at how Hong Kong Johnson Holdings has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

How Are Returns Trending?

In terms of Hong Kong Johnson Holdings' historical ROCE movements, the trend isn't fantastic. Around three years ago the returns on capital were 41%, but since then they've fallen to 14%. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, Hong Kong Johnson Holdings has done well to pay down its current liabilities to 50% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money. Keep in mind 50% is still pretty high, so those risks are still somewhat prevalent.

The Bottom Line

While returns have fallen for Hong Kong Johnson Holdings in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. However, total returns to shareholders over the last year have been flat, which could indicate these growth trends potentially aren't accounted for yet by investors. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

Like most companies, Hong Kong Johnson Holdings does come with some risks, and we've found 2 warning signs that you should be aware of.

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. 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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