Here's What's Concerning About Grace Wine Holdings' (HKG:8146) Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. Although, when we looked at Grace Wine Holdings (HKG:8146), it didn't seem to tick all of these boxes.

Understanding 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. Analysts use this formula to calculate it for Grace Wine Holdings:

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

0.035 = CN¥9.2m ÷ (CN¥272m - CN¥13m) (Based on the trailing twelve months to September 2021).

So, Grace Wine Holdings has an ROCE of 3.5%. Ultimately, that's a low return and it under-performs the Beverage industry average of 11%.

Check out our latest analysis for Grace Wine Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for Grace Wine Holdings' ROCE against it's prior returns. If you'd like to look at how Grace Wine Holdings has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Grace Wine Holdings Tell Us?

On the surface, the trend of ROCE at Grace Wine Holdings doesn't inspire confidence. To be more specific, ROCE has fallen from 14% over the last five years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, Grace Wine Holdings has done well to pay down its current liabilities to 4.9% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

Our Take On Grace Wine Holdings' ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Grace Wine Holdings is reinvesting for growth and has higher sales as a result. These growth trends haven't led to growth returns though, since the stock has fallen 43% over the last three years. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

If you want to know some of the risks facing Grace Wine Holdings we've found 2 warning signs (1 shouldn't be ignored!) that you should be aware of before investing here.

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.