Returns On Capital At Tiande Chemical Holdings (HKG:609) Paint A Concerning Picture

To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. This combination can tell you that not only is the company investing less, it's earning less on what it does invest. On that note, looking into Tiande Chemical Holdings (HKG:609), we weren't too upbeat about how things were going.

Understanding Return On Capital Employed (ROCE)

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Tiande Chemical Holdings, this is the formula:

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

0.022 = CN¥31m ÷ (CN¥1.9b - CN¥516m) (Based on the trailing twelve months to December 2020).

Therefore, Tiande Chemical Holdings has an ROCE of 2.2%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 9.5%.

Check out our latest analysis for Tiande Chemical 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 Tiande Chemical Holdings' past further, check out this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

There is reason to be cautious about Tiande Chemical Holdings, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 20% that they were earning five years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. If these trends continue, we wouldn't expect Tiande Chemical Holdings to turn into a multi-bagger.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 27%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 2.2%. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.

In Conclusion...

In summary, it's unfortunate that Tiande Chemical Holdings is generating lower returns from the same amount of capital. Long term shareholders who've owned the stock over the last five years have experienced a 35% depreciation in their investment, so it appears the market might not like these trends either. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

One more thing: We've identified 4 warning signs with Tiande Chemical Holdings (at least 1 which is potentially serious) , and understanding these would certainly be useful.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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