Returns On Capital At Dragon Mining (HKG:1712) Paint An Interesting Picture

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. However, after investigating Dragon Mining (HKG:1712), we don't think it's current trends fit the mold of a multi-bagger.

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. The formula for this calculation on Dragon Mining is:

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

0.13 = AU$9.5m ÷ (AU$80m - AU$8.2m) (Based on the trailing twelve months to June 2020).

Thus, Dragon Mining has an ROCE of 13%. On its own, that's a standard return, however it's much better than the 7.5% generated by the Metals and Mining industry.

Check out our latest analysis for Dragon Mining

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'd like to look at how Dragon Mining 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 Dragon Mining Tell Us?

When we looked at the ROCE trend at Dragon Mining, we didn't gain much confidence. To be more specific, ROCE has fallen from 27% 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, Dragon Mining has done well to pay down its current liabilities to 10% of total assets. So we could link some of this to the decrease in ROCE. 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.

The Bottom Line On Dragon Mining's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Dragon Mining is reinvesting for growth and has higher sales as a result. These trends are starting to be recognized by investors since the stock has delivered a 6.8% gain to shareholders who've held over the last year. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

Dragon Mining does have some risks, we noticed 3 warning signs (and 1 which is a bit unpleasant) we think you should 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. 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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