Returns Are Gaining Momentum At China Modern Dairy Holdings (HKG:1117)

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So when we looked at China Modern Dairy Holdings (HKG:1117) and its trend of ROCE, we really liked what we saw.

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. Analysts use this formula to calculate it for China Modern Dairy Holdings:

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

0.086 = CN¥2.0b ÷ (CN¥29b - CN¥6.4b) (Based on the trailing twelve months to June 2023).

Thus, China Modern Dairy Holdings has an ROCE of 8.6%. On its own that's a low return on capital but it's in line with the industry's average returns of 9.3%.

Check out our latest analysis for China Modern Dairy Holdings

In the above chart we have measured China Modern Dairy Holdings' 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 report for China Modern Dairy Holdings.

What Does the ROCE Trend For China Modern Dairy Holdings Tell Us?

Even though ROCE is still low in absolute terms, it's good to see it's heading in the right direction. The data shows that returns on capital have increased substantially over the last five years to 8.6%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 114%. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.

In another part of our analysis, we noticed that the company's ratio of current liabilities to total assets decreased to 22%, which broadly means the business is relying less on its suppliers or short-term creditors to fund its operations. This tells us that China Modern Dairy Holdings has grown its returns without a reliance on increasing their current liabilities, which we're very happy with.

The Bottom Line

In summary, it's great to see that China Modern Dairy Holdings can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. Since the total return from the stock has been almost flat over the last five years, there might be an opportunity here if the valuation looks good. So researching this company further and determining whether or not these trends will continue seems justified.

On a separate note, we've found 3 warning signs for China Modern Dairy Holdings you'll probably want to know about.

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.