Capital Allocation Trends At Ngai Hing Hong (HKG:1047) Aren't Ideal
To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that's often how a mature business shows signs of aging. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. And from a first read, things don't look too good at Ngai Hing Hong (HKG:1047), so let's see why.
Understanding Return On Capital Employed (ROCE)
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for Ngai Hing Hong, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.033 = HK$19m ÷ (HK$996m - HK$414m) (Based on the trailing twelve months to December 2022).
So, Ngai Hing Hong has an ROCE of 3.3%. Ultimately, that's a low return and it under-performs the Chemicals industry average of 15%.
Check out our latest analysis for Ngai Hing Hong
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 want to delve into the historical earnings, revenue and cash flow of Ngai Hing Hong, check out these free graphs here.
What The Trend Of ROCE Can Tell Us
In terms of Ngai Hing Hong's historical ROCE movements, the trend doesn't inspire confidence. Unfortunately the returns on capital have diminished from the 12% that they were earning five years ago. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. If these trends continue, we wouldn't expect Ngai Hing Hong to turn into a multi-bagger.
On a side note, Ngai Hing Hong's current liabilities are still rather high at 42% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
Our Take On Ngai Hing Hong's ROCE
In summary, it's unfortunate that Ngai Hing Hong is generating lower returns from the same amount of capital. It should come as no surprise then that the stock has fallen 36% over the last five years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.
If you want to continue researching Ngai Hing Hong, you might be interested to know about the 1 warning sign that our analysis has discovered.
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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.
Ngai Hing Hong
Ngai Hing Hong Company Limited, an investment holding company, manufactures and trades in plastic materials, pigments, colorants, compounded plastic resins, engineering plastics, and biodegradable plastics in Hong Kong and China.
Adequate balance sheet and slightly overvalued.