Is Jia Yao Holdings (HKG:1626) Headed For Trouble?

Ignoring the stock price of a company, what are the underlying trends that tell us a business is past the growth phase? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. Having said that, after a brief look, Jia Yao Holdings (HKG:1626) we aren't filled with optimism, but let's investigate further.

What is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Jia Yao Holdings is:

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

0.037 = CN¥9.3m ÷ (CN¥605m - CN¥353m) (Based on the trailing twelve months to June 2020).

Therefore, Jia Yao Holdings has an ROCE of 3.7%. Ultimately, that's a low return and it under-performs the Packaging industry average of 11%.

See our latest analysis for Jia Yao Holdings

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 Jia Yao Holdings' past further, check out this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Jia Yao Holdings Tell Us?

We are a bit worried about the trend of returns on capital at Jia Yao Holdings. About five years ago, returns on capital were 13%, however they're now substantially lower than that as we saw above. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Jia Yao Holdings becoming one if things continue as they have.

On a separate but related note, it's important to know that Jia Yao Holdings has a current liabilities to total assets ratio of 58%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Key Takeaway

In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. It should come as no surprise then that the stock has fallen 68% over the last five years, so it looks like investors are recognizing these changes. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

One more thing: We've identified 5 warning signs with Jia Yao Holdings (at least 3 which are a bit unpleasant) , and understanding these would certainly be useful.

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. 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.
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