What trends should we look for it we want to identify stocks that can multiply in value over the long term? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. However, after investigating Wonderful Sky Financial Group Holdings (HKG:1260), we don't think it's current trends fit the mold of a multi-bagger.
What is 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. The formula for this calculation on Wonderful Sky Financial Group Holdings is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.018 = HK$28m ÷ (HK$1.7b - HK$160m) (Based on the trailing twelve months to September 2021).
Thus, Wonderful Sky Financial Group Holdings has an ROCE of 1.8%. In absolute terms, that's a low return and it also under-performs the Media industry average of 9.4%.
Historical performance is a great place to start when researching a stock so above you can see the gauge for Wonderful Sky Financial Group Holdings' ROCE against it's prior returns. If you'd like to look at how Wonderful Sky Financial Group Holdings has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
The Trend Of ROCE
In terms of Wonderful Sky Financial Group Holdings' historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 1.8% from 18% five years ago. 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. If these investments prove successful, this can bode very well for long term stock performance.
On a side note, Wonderful Sky Financial Group Holdings has done well to pay down its current liabilities to 9.2% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.
What We Can Learn From Wonderful Sky Financial Group Holdings' ROCE
While returns have fallen for Wonderful Sky Financial Group Holdings in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. Despite these promising trends, the stock has collapsed 87% over the last five years, so there could be other factors hurting the company's prospects. Therefore, we'd suggest researching the stock further to uncover more about the business.
Wonderful Sky Financial Group Holdings does come with some risks though, we found 3 warning signs in our investment analysis, and 1 of those is a bit unpleasant...
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.
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.