Returns On Capital At Wine's Link International Holdings (HKG:8509) 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? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after investigating Wine's Link International Holdings (HKG:8509), 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 Wine's Link International Holdings:

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

0.095 = HK$24m ÷ (HK$406m - HK$157m) (Based on the trailing twelve months to June 2022).

Therefore, Wine's Link International Holdings has an ROCE of 9.5%. In absolute terms, that's a low return but it's around the Retail Distributors industry average of 9.4%.

Our analysis indicates that 8509 is potentially undervalued!

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

What Does the ROCE Trend For Wine's Link International Holdings Tell Us?

When we looked at the ROCE trend at Wine's Link International Holdings, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 9.5% from 25% five 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.

On a side note, Wine's Link International Holdings has done well to pay down its current liabilities to 39% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line

In summary, we're somewhat concerned by Wine's Link International Holdings' diminishing returns on increasing amounts of capital. Long term shareholders who've owned the stock over the last three years have experienced a 20% depreciation in their investment, so it appears the market might not like these trends either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for Wine's Link International Holdings (of which 1 can't be ignored!) that you should know about.

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

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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.