What trends should we look for it we want to identify stocks that can multiply in value over the long term? 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. Although, when we looked at Chia Tai Enterprises International (HKG:3839), it didn't seem to tick all of these boxes.
Return On Capital Employed (ROCE): What is it?
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. The formula for this calculation on Chia Tai Enterprises International is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.0045 = US$1.3m ÷ (US$331m - US$42m) (Based on the trailing twelve months to December 2020).
So, Chia Tai Enterprises International has an ROCE of 0.4%. Ultimately, that's a low return and it under-performs the Food industry average of 13%.
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 Chia Tai Enterprises International's past further, check out this free graph of past earnings, revenue and cash flow.
So How Is Chia Tai Enterprises International's ROCE Trending?
On the surface, the trend of ROCE at Chia Tai Enterprises International doesn't inspire confidence. Around five years ago the returns on capital were 5.6%, but since then they've fallen to 0.4%. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.
What We Can Learn From Chia Tai Enterprises International's ROCE
In summary, we're somewhat concerned by Chia Tai Enterprises International's diminishing returns on increasing amounts of capital. Long term shareholders who've owned the stock over the last five years have experienced a 41% depreciation in their investment, so it appears the market might not like these trends either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.
If you'd like to know about the risks facing Chia Tai Enterprises International, we've discovered 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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