China Xinhua Education Group (HKG:2779) May Have Issues Allocating Its Capital

There are a few key trends to look for if we want to identify the next multi-bagger. 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 China Xinhua Education Group (HKG:2779), 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. The formula for this calculation on China Xinhua Education Group is:

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

0.065 = CN¥247m ÷ (CN¥4.1b - CN¥269m) (Based on the trailing twelve months to June 2023).

Thus, China Xinhua Education Group has an ROCE of 6.5%. In absolute terms, that's a low return and it also under-performs the Consumer Services industry average of 11%.

View our latest analysis for China Xinhua Education 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're interested in investigating China Xinhua Education Group's past further, check out this free graph covering China Xinhua Education Group's past earnings, revenue and cash flow.

What Can We Tell From China Xinhua Education Group's ROCE Trend?

In terms of China Xinhua Education Group's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 8.7%, but since then they've fallen to 6.5%. 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 may take some time before the company starts to see any change in earnings from these investments.

The Key Takeaway

In summary, China Xinhua Education Group is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. It seems that investors have little hope of these trends getting any better and that may have partly contributed to the stock collapsing 73% in the last five years. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.

Like most companies, China Xinhua Education Group does come with some risks, and we've found 1 warning sign 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. 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.