Huabao International Holdings' (HKG:336) Returns On Capital Not Reflecting Well On The Business

If you're looking at a mature business that's past the growth phase, what are some of the underlying trends that pop up? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. So after we looked into Huabao International Holdings (HKG:336), the trends above didn't look too great.

Return On Capital Employed (ROCE): What Is It?

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 Huabao International Holdings, this is the formula:

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

0.042 = CN¥627m ÷ (CN¥16b - CN¥1.2b) (Based on the trailing twelve months to June 2023).

Thus, Huabao International Holdings has an ROCE of 4.2%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 9.3%.

See our latest analysis for Huabao International Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for Huabao International Holdings' ROCE against it's prior returns. If you're interested in investigating Huabao International Holdings' past further, check out this free graph of past earnings, revenue and cash flow.

What Can We Tell From Huabao International Holdings' ROCE Trend?

There is reason to be cautious about Huabao International Holdings, given the returns are trending downwards. About five years ago, returns on capital were 11%, however they're now substantially lower than that as we saw above. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Huabao International Holdings becoming one if things continue as they have.

What We Can Learn From Huabao International Holdings' ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. It should come as no surprise then that the stock has fallen 13% over the last five years, so it looks like investors are recognizing these changes. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

On a final note, we found 2 warning signs for Huabao International Holdings (1 is concerning) you should be aware of.

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.