Returns On Capital At China Tobacco International (HK) (HKG:6055) Paint A Concerning Picture

What trends should we look for it we want to identify stocks that can multiply in value over the long term? 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. However, after investigating China Tobacco International (HK) (HKG:6055), we don't think it's current trends fit the mold of a multi-bagger.

What is 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. Analysts use this formula to calculate it for China Tobacco International (HK):

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

0.045 = HK$72m ÷ (HK$3.6b - HK$2.0b) (Based on the trailing twelve months to December 2020).

So, China Tobacco International (HK) has an ROCE of 4.5%. On its own that's a low return, but compared to the average of 2.7% generated by the Retail Distributors industry, it's much better.

See our latest analysis for China Tobacco International (HK)

Above you can see how the current ROCE for China Tobacco International (HK) compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

How Are Returns Trending?

When we looked at the ROCE trend at China Tobacco International (HK), we didn't gain much confidence. Around five years ago the returns on capital were 41%, but since then they've fallen to 4.5%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

On a separate but related note, it's important to know that China Tobacco International (HK) has a current liabilities to total assets ratio of 56%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On China Tobacco International (HK)'s ROCE

From the above analysis, we find it rather worrisome that returns on capital and sales for China Tobacco International (HK) have fallen, meanwhile the business is employing more capital than it was five years ago. And, the stock has remained flat over the last year, so investors don't seem too impressed either. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

While China Tobacco International (HK) doesn't shine too bright in this respect, it's still worth seeing if the company is trading at attractive prices. You can find that out with our FREE intrinsic value estimation on our platform.

While China Tobacco International (HK) 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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This article by Simply Wall St is general in nature. 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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