Be Wary Of Yadong Group Holdings (HKG:1795) And Its Returns On Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's 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. Although, when we looked at Yadong Group Holdings (HKG:1795), it didn't seem to tick all of these boxes.

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 Yadong Group Holdings, this is the formula:

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

0.15 = CN¥42m ÷ (CN¥778m - CN¥497m) (Based on the trailing twelve months to June 2023).

Thus, Yadong Group Holdings has an ROCE of 15%. In absolute terms, that's a satisfactory return, but compared to the Luxury industry average of 11% it's much better.

View our latest analysis for Yadong Group 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 want to delve into the historical earnings, revenue and cash flow of Yadong Group Holdings, check out these free graphs here.

What Can We Tell From Yadong Group Holdings' ROCE Trend?

On the surface, the trend of ROCE at Yadong Group Holdings doesn't inspire confidence. Over the last five years, returns on capital have decreased to 15% from 41% 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.

Another thing to note, Yadong Group Holdings has a high ratio of current liabilities to total assets of 64%. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line

Bringing it all together, while we're somewhat encouraged by Yadong Group Holdings' reinvestment in its own business, we're aware that returns are shrinking. Yet to long term shareholders the stock has gifted them an incredible 235% return in the last year, so the market appears to be rosy about its future. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

Yadong Group Holdings does have some risks, we noticed 3 warning signs (and 2 which are a bit concerning) we think you should know about.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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.