Be Wary Of BYD Electronic (International) (HKG:285) And Its Returns On Capital

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. 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at BYD Electronic (International) (HKG:285) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. Analysts use this formula to calculate it for BYD Electronic (International):

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

0.016 = CN¥406m ÷ (CN¥45b - CN¥19b) (Based on the trailing twelve months to June 2022).

Thus, BYD Electronic (International) has an ROCE of 1.6%. Ultimately, that's a low return and it under-performs the Communications industry average of 5.9%.

See our latest analysis for BYD Electronic (International)

Above you can see how the current ROCE for BYD Electronic (International) compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering BYD Electronic (International) here for free.

What Does the ROCE Trend For BYD Electronic (International) Tell Us?

When we looked at the ROCE trend at BYD Electronic (International), we didn't gain much confidence. Over the last five years, returns on capital have decreased to 1.6% from 15% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a separate but related note, it's important to know that BYD Electronic (International) has a current liabilities to total assets ratio of 43%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On BYD Electronic (International)'s ROCE

Bringing it all together, while we're somewhat encouraged by BYD Electronic (International)'s reinvestment in its own business, we're aware that returns are shrinking. Although the market must be expecting these trends to improve because the stock has gained 65% over the last five years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

One more thing, we've spotted 1 warning sign facing BYD Electronic (International) that you might find interesting.

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.