Inke (HKG:3700) Might Be Having Difficulty Using Its Capital Effectively

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after investigating Inke (HKG:3700), we don't think it's current trends fit the mold of a multi-bagger.

Understanding Return On Capital Employed (ROCE)

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 Inke, this is the formula:

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

0.031 = CN¥119m ÷ (CN¥4.8b - CN¥955m) (Based on the trailing twelve months to June 2021).

Therefore, Inke has an ROCE of 3.1%. In absolute terms, that's a low return and it also under-performs the Interactive Media and Services industry average of 7.0%.

Check out our latest analysis for Inke

In the above chart we have measured Inke's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What Does the ROCE Trend For Inke Tell Us?

When we looked at the ROCE trend at Inke, we didn't gain much confidence. To be more specific, ROCE has fallen from 58% 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. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Inke has done well to pay down its current liabilities to 20% 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. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Bottom Line On Inke's ROCE

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Inke. These growth trends haven't led to growth returns though, since the stock has fallen 36% over the last three years. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

Like most companies, Inke does come with some risks, and we've found 1 warning sign that you should be aware of.

While Inke isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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.

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