There Are Reasons To Feel Uneasy About Activation Group Holdings' (HKG:9919) Returns On Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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 Activation Group Holdings (HKG:9919), 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. The formula for this calculation on Activation Group Holdings is:

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

0.075 = CN¥29m ÷ (CN¥589m - CN¥206m) (Based on the trailing twelve months to December 2020).

So, Activation Group Holdings has an ROCE of 7.5%. On its own, that's a low figure but it's around the 6.9% average generated by the Media industry.

View our latest analysis for Activation Group Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for Activation Group Holdings' ROCE against it's prior returns. If you'd like to look at how Activation Group Holdings has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

How Are Returns Trending?

In terms of Activation Group Holdings' historical ROCE movements, the trend isn't fantastic. Over the last four years, returns on capital have decreased to 7.5% from 35% four years ago. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

The Bottom Line On Activation Group Holdings' ROCE

In summary, we're somewhat concerned by Activation Group Holdings' diminishing returns on increasing amounts of capital.

On a final note, we found 2 warning signs for Activation Group Holdings (1 is a bit unpleasant) you should be aware of.

While Activation Group 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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