Xiabuxiabu Catering Management (China) Holdings (HKG:520) Is Finding It Tricky To Allocate Its Capital

When researching a stock for investment, what can tell us that the company is in decline? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. This indicates the company is producing less profit from its investments and its total assets are decreasing. So after glancing at the trends within Xiabuxiabu Catering Management (China) Holdings (HKG:520), we weren't too hopeful.

What Is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Xiabuxiabu Catering Management (China) Holdings, this is the formula:

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

0.0058 = CN¥14m ÷ (CN¥4.4b - CN¥1.9b) (Based on the trailing twelve months to June 2023).

Thus, Xiabuxiabu Catering Management (China) Holdings has an ROCE of 0.6%. In absolute terms, that's a low return and it also under-performs the Hospitality industry average of 4.7%.

View our latest analysis for Xiabuxiabu Catering Management (China) Holdings

Above you can see how the current ROCE for Xiabuxiabu Catering Management (China) Holdings compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Xiabuxiabu Catering Management (China) Holdings here for free.

What Can We Tell From Xiabuxiabu Catering Management (China) Holdings' ROCE Trend?

In terms of Xiabuxiabu Catering Management (China) Holdings' historical ROCE movements, the trend doesn't inspire confidence. Unfortunately the returns on capital have diminished from the 26% that they were earning five years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. If these trends continue, we wouldn't expect Xiabuxiabu Catering Management (China) Holdings to turn into a multi-bagger.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 44%, which has impacted the ROCE. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. What this means is that in reality, a rather large portion of the business is being funded by the likes of the company's suppliers or short-term creditors, which can bring some risks of its own.

In Conclusion...

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. Investors haven't taken kindly to these developments, since the stock has declined 65% from where it was five years ago. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

If you're still interested in Xiabuxiabu Catering Management (China) Holdings it's worth checking out our FREE intrinsic value approximation to see if it's trading at an attractive price in other respects.

While Xiabuxiabu Catering Management (China) Holdings may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.