Returns Are Gaining Momentum At Digital China Holdings (HKG:861)

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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. With that in mind, we've noticed some promising trends at Digital China Holdings (HKG:861) so let's look a bit deeper.

Understanding 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 Digital China Holdings, this is the formula:

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

0.033 = HK$517m ÷ (HK$25b - HK$9.3b) (Based on the trailing twelve months to December 2022).

Thus, Digital China Holdings has an ROCE of 3.3%. Ultimately, that's a low return and it under-performs the IT industry average of 7.1%.

View our latest analysis for Digital China Holdings

Above you can see how the current ROCE for Digital China Holdings compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Digital China Holdings.

So How Is Digital China Holdings' ROCE Trending?

We're delighted to see that Digital China Holdings is reaping rewards from its investments and has now broken into profitability. The company now earns 3.3% on its capital, because five years ago it was incurring losses. Interestingly, the capital employed by the business has remained relatively flat, so these higher returns are either from prior investments paying off or increased efficiencies. So while we're happy that the business is more efficient, just keep in mind that could mean that going forward the business is lacking areas to invest internally for growth. After all, a company can only become a long term multi-bagger if it continually reinvests in itself at high rates of return.

In Conclusion...

To bring it all together, Digital China Holdings has done well to increase the returns it's generating from its capital employed. Since the stock has only returned 1.8% to shareholders over the last five years, the promising fundamentals may not be recognized yet by investors. Given that, we'd look further into this stock in case it has more traits that could make it multiply in the long term.

Digital China Holdings does have some risks though, and we've spotted 1 warning sign for Digital China Holdings that you might be interested in.

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. 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.