Be Wary Of CGN Mining (HKG:1164) And Its Returns On Capital

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. In light of that, when we looked at CGN Mining (HKG:1164) and its ROCE trend, we weren't exactly thrilled.

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. To calculate this metric for CGN Mining, this is the formula:

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

0.018 = HK$90m ÷ (HK$7.1b - HK$2.1b) (Based on the trailing twelve months to June 2023).

Therefore, CGN Mining has an ROCE of 1.8%. Ultimately, that's a low return and it under-performs the Oil and Gas industry average of 6.3%.

See our latest analysis for CGN Mining

In the above chart we have measured CGN Mining's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for CGN Mining .

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at CGN Mining doesn't inspire confidence. Over the last five years, returns on capital have decreased to 1.8% from 7.9% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 29%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 1.8%. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.

Our Take On CGN Mining's ROCE

In summary, CGN Mining is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Yet to long term shareholders the stock has gifted them an incredible 544% return in the last five years, so the market appears to be rosy about its future. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

One more thing to note, we've identified 1 warning sign with CGN Mining and understanding it should be part of your investment process.

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.