Investors Could Be Concerned With Contel Technology's (HKG:1912) 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? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's 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. In light of that, when we looked at Contel Technology (HKG:1912) and its ROCE trend, we weren't exactly thrilled.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for Contel Technology:

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

0.079 = US$2.7m ÷ (US$74m - US$41m) (Based on the trailing twelve months to June 2021).

So, Contel Technology has an ROCE of 7.9%. Even though it's in line with the industry average of 7.9%, it's still a low return by itself.

See our latest analysis for Contel Technology

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

The Trend Of ROCE

When we looked at the ROCE trend at Contel Technology, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 7.9% from 29% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Contel Technology's current liabilities are still rather high at 55% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Key Takeaway

In summary, despite lower returns in the short term, we're encouraged to see that Contel Technology is reinvesting for growth and has higher sales as a result. These growth trends haven't led to growth returns though, since the stock has fallen 47% over the last year. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

Like most companies, Contel Technology does come with some risks, and we've found 3 warning signs that you should be aware of.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.