China Display Optoelectronics Technology Holdings (HKG:334) Will Want To Turn Around Its Return Trends

There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after investigating China Display Optoelectronics Technology Holdings (HKG:334), we don't think it's current trends fit the mold of a multi-bagger.

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. To calculate this metric for China Display Optoelectronics Technology Holdings, this is the formula:

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

0.051 = CN¥41m ÷ (CN¥2.8b - CN¥2.0b) (Based on the trailing twelve months to June 2021).

Therefore, China Display Optoelectronics Technology Holdings has an ROCE of 5.1%. Ultimately, that's a low return and it under-performs the Tech industry average of 8.0%.

Check out our latest analysis for China Display Optoelectronics Technology Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for China Display Optoelectronics Technology Holdings' ROCE against it's prior returns. If you'd like to look at how China Display Optoelectronics Technology Holdings has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at China Display Optoelectronics Technology Holdings doesn't inspire confidence. Over the last five years, returns on capital have decreased to 5.1% from 22% 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, China Display Optoelectronics Technology Holdings has done well to pay down its current liabilities to 72% 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. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE. Keep in mind 72% is still pretty high, so those risks are still somewhat prevalent.

The Bottom Line

While returns have fallen for China Display Optoelectronics Technology Holdings in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. These trends are starting to be recognized by investors since the stock has delivered a 11% gain to shareholders who've held over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for China Display Optoelectronics Technology Holdings (of which 1 is a bit concerning!) that you should know about.

While China Display Optoelectronics Technology Holdings may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

When trading stocks or any other investment, use the platform considered by many to be the Professional's Gateway to the Worlds Market, Interactive Brokers. You get the lowest-cost* trading on stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.