Our Take On The Returns On Capital At AV Promotions Holdings (HKG:8419)

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after investigating AV Promotions Holdings (HKG:8419), we don't think it's current trends fit the mold of a multi-bagger.

What is 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. To calculate this metric for AV Promotions Holdings, this is the formula:

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

0.053 = HK$6.9m ÷ (HK$264m - HK$134m) (Based on the trailing twelve months to September 2020).

So, AV Promotions Holdings has an ROCE of 5.3%. In absolute terms, that's a low return and it also under-performs the Commercial Services industry average of 9.8%.

View our latest analysis for AV Promotions Holdings

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

What Does the ROCE Trend For AV Promotions Holdings Tell Us?

When we looked at the ROCE trend at AV Promotions Holdings, we didn't gain much confidence. Around four years ago the returns on capital were 21%, but since then they've fallen to 5.3%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a related note, AV Promotions Holdings has decreased its current liabilities to 51% of total assets. That could partly explain why the ROCE has dropped. 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. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

In Conclusion...

In summary, we're somewhat concerned by AV Promotions Holdings' diminishing returns on increasing amounts of capital. In spite of that, the stock has delivered a 6.3% return to shareholders who held over the last year. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.

AV Promotions Holdings does come with some risks though, we found 3 warning signs in our investment analysis, and 1 of those is a bit unpleasant...

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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