Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding 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. So when we looked at the ROCE trend of CCID Consulting (HKG:2176) we really liked what we saw.
What is Return On Capital Employed (ROCE)?
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for CCID Consulting, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.25 = CN¥65m ÷ (CN¥348m - CN¥89m) (Based on the trailing twelve months to June 2021).
So, CCID Consulting has an ROCE of 25%. In absolute terms that's a great return and it's even better than the IT industry average of 6.3%.
Historical performance is a great place to start when researching a stock so above you can see the gauge for CCID Consulting's ROCE against it's prior returns. If you'd like to look at how CCID Consulting has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
What Does the ROCE Trend For CCID Consulting Tell Us?
We like the trends that we're seeing from CCID Consulting. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 25%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 57%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.
On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Essentially the business now has suppliers or short-term creditors funding about 26% of its operations, which isn't ideal. It's worth keeping an eye on this because as the percentage of current liabilities to total assets increases, some aspects of risk also increase.
Our Take On CCID Consulting's ROCE
To sum it up, CCID Consulting has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. Investors may not be impressed by the favorable underlying trends yet because over the last five years the stock has only returned 8.2% to shareholders. So with that in mind, we think the stock deserves further research.
One more thing, we've spotted 3 warning signs facing CCID Consulting that you might find interesting.
If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets 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.