Investors Could Be Concerned With AEON Stores (Hong Kong)'s (HKG:984) Returns On Capital

What are the early trends we should look for to identify a stock that could 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 AEON Stores (Hong Kong) (HKG:984), we don't think it's current trends fit the mold of a multi-bagger.

What is Return On Capital Employed (ROCE)?

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. To calculate this metric for AEON Stores (Hong Kong), this is the formula:

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

0.04 = HK$188m ÷ (HK$7.9b - HK$3.2b) (Based on the trailing twelve months to June 2020).

Therefore, AEON Stores (Hong Kong) has an ROCE of 4.0%. Ultimately, that's a low return and it under-performs the Multiline Retail industry average of 7.5%.

View our latest analysis for AEON Stores (Hong Kong)

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you want to delve into the historical earnings, revenue and cash flow of AEON Stores (Hong Kong), check out these free graphs here.

What Does the ROCE Trend For AEON Stores (Hong Kong) Tell Us?

When we looked at the ROCE trend at AEON Stores (Hong Kong), we didn't gain much confidence. Over the last five years, returns on capital have decreased to 4.0% from 10% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.

On a related note, AEON Stores (Hong Kong) has decreased its current liabilities to 41% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

What We Can Learn From AEON Stores (Hong Kong)'s ROCE

In summary, AEON Stores (Hong Kong) is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Since the stock has declined 54% over the last five years, investors may not be too optimistic on this trend improving either. Therefore based on the analysis done in this article, we don't think AEON Stores (Hong Kong) has the makings of a multi-bagger.

One final note, you should learn about the 4 warning signs we've spotted with AEON Stores (Hong Kong) (including 1 which is potentially serious) .

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. 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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