There Are Reasons To Feel Uneasy About BetterLife Holding's (HKG:6909) Returns On Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. However, after investigating BetterLife Holding (HKG:6909), we don't think it's current trends fit the mold of a multi-bagger.

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

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. Analysts use this formula to calculate it for BetterLife Holding:

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

0.045 = CN¥155m ÷ (CN¥5.4b - CN¥1.9b) (Based on the trailing twelve months to June 2023).

So, BetterLife Holding has an ROCE of 4.5%. Ultimately, that's a low return and it under-performs the Specialty Retail industry average of 9.9%.

See our latest analysis for BetterLife Holding

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

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at BetterLife Holding, we didn't gain much confidence. Around four years ago the returns on capital were 21%, but since then they've fallen to 4.5%. 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a related note, BetterLife Holding has decreased its current liabilities to 36% of total assets. That could partly explain why the ROCE has dropped. 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 BetterLife Holding's ROCE

While returns have fallen for BetterLife Holding in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And there could be an opportunity here if other metrics look good too, because the stock has declined 66% in the last year. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

One final note, you should learn about the 5 warning signs we've spotted with BetterLife Holding (including 2 which are a bit unpleasant) .

While BetterLife Holding 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. 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.