Orange Tour Cultural Holding (HKG:8627) Could Be Struggling To Allocate Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at Orange Tour Cultural Holding (HKG:8627), it didn't seem to tick all of these boxes.

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

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Orange Tour Cultural Holding:

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

0.004 = CN¥344k ÷ (CN¥107m - CN¥21m) (Based on the trailing twelve months to September 2023).

Thus, Orange Tour Cultural Holding has an ROCE of 0.4%. Ultimately, that's a low return and it under-performs the Media industry average of 9.6%.

See our latest analysis for Orange Tour Cultural Holding

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

The Trend Of ROCE

On the surface, the trend of ROCE at Orange Tour Cultural Holding doesn't inspire confidence. To be more specific, ROCE has fallen from 47% 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 related note, Orange Tour Cultural Holding has decreased 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

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Orange Tour Cultural Holding. And there could be an opportunity here if other metrics look good too, because the stock has declined 67% in the last three years. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

Orange Tour Cultural Holding does have some risks, we noticed 4 warning signs (and 3 which are concerning) we think you should know about.

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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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.