Chen Lin Education Group Holdings (HKG:1593) Is Reinvesting At Lower Rates Of Return

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. In light of that, when we looked at Chen Lin Education Group Holdings (HKG:1593) and its ROCE trend, we weren't exactly thrilled.

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

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. Analysts use this formula to calculate it for Chen Lin Education Group Holdings:

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

0.075 = CN¥107m ÷ (CN¥2.0b - CN¥586m) (Based on the trailing twelve months to December 2020).

Thus, Chen Lin Education Group Holdings has an ROCE of 7.5%. In absolute terms, that's a low return but it's around the Consumer Services industry average of 7.7%.

Check out our latest analysis for Chen Lin Education Group Holdings

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

What Does the ROCE Trend For Chen Lin Education Group Holdings Tell Us?

On the surface, the trend of ROCE at Chen Lin Education Group Holdings doesn't inspire confidence. Around four years ago the returns on capital were 26%, but since then they've fallen to 7.5%. 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. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Chen Lin Education Group Holdings has done well to pay down its current liabilities to 29% 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.

What We Can Learn From Chen Lin Education Group Holdings' ROCE

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Chen Lin Education Group Holdings. Furthermore the stock has climbed 15% over the last year, it would appear that investors are upbeat about the future. 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.

One more thing, we've spotted 2 warning signs facing Chen Lin Education Group Holdings that you might find interesting.

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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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