Tiande Chemical Holdings (HKG:609) Could Be At Risk Of Shrinking As A Company

Ignoring the stock price of a company, what are the underlying trends that tell us a business is past the growth phase? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. Basically the company is earning less on its investments and it is also reducing its total assets. And from a first read, things don't look too good at Tiande Chemical Holdings (HKG:609), so let's see why.

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. Analysts use this formula to calculate it for Tiande Chemical Holdings:

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).

Thus, 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 9.7%.

See our latest analysis for Tiande Chemical Holdings

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

How Are Returns Trending?

There is reason to be cautious about Tiande Chemical Holdings, given the returns are trending downwards. To be more specific, the ROCE was 20% five years ago, but since then it has dropped noticeably. Meanwhile, capital employed in the business has stayed roughly the flat over the period. 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. If these trends continue, we wouldn't expect Tiande Chemical Holdings to turn into a multi-bagger.

On a side note, Tiande Chemical Holdings' current liabilities have increased over the last five years to 27% of total assets, effectively distorting the ROCE to some degree. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. Keep an eye on this ratio, because the business could encounter some new risks if this metric gets too high.

In Conclusion...

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 23% 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 4 warning signs with Tiande Chemical Holdings (at least 1 which can't be ignored) , and understanding them would certainly be useful.

While Tiande Chemical Holdings may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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