Our Take On The Returns On Capital At LH Group (HKG:1978)

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after briefly looking over the numbers, we don't think LH Group (HKG:1978) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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. The formula for this calculation on LH Group is:

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

0.11 = HK$49m ÷ (HK$721m - HK$278m) (Based on the trailing twelve months to June 2020).

So, LH Group has an ROCE of 11%. On its own, that's a standard return, however it's much better than the 3.7% generated by the Hospitality industry.

View our latest analysis for LH Group

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 LH Group, check out these free graphs here.

The Trend Of ROCE

When we looked at the ROCE trend at LH Group, we didn't gain much confidence. To be more specific, ROCE has fallen from 20% over the last four years. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

The Key Takeaway

In summary, we're somewhat concerned by LH Group's diminishing returns on increasing amounts of capital.

On a final note, we found 2 warning signs for LH Group (1 can't be ignored) you should be aware of.

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. 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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