Towngas Smart Energy's (HKG:1083) Returns On Capital Not Reflecting Well On The Business

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. 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 Towngas Smart Energy (HKG:1083) and its ROCE trend, we weren't exactly thrilled.

Understanding 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 Towngas Smart Energy, this is the formula:

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

0.053 = HK$1.8b ÷ (HK$54b - HK$20b) (Based on the trailing twelve months to June 2024).

So, Towngas Smart Energy has an ROCE of 5.3%. Ultimately, that's a low return and it under-performs the Gas Utilities industry average of 8.6%.

Check out our latest analysis for Towngas Smart Energy

Above you can see how the current ROCE for Towngas Smart Energy 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 Towngas Smart Energy for free.

What Can We Tell From Towngas Smart Energy's ROCE Trend?

When we looked at the ROCE trend at Towngas Smart Energy, we didn't gain much confidence. To be more specific, ROCE has fallen from 6.7% over the last five years. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.

Our Take On Towngas Smart Energy's ROCE

Bringing it all together, while we're somewhat encouraged by Towngas Smart Energy's reinvestment in its own business, we're aware that returns are shrinking. Unsurprisingly, the stock has only gained 7.4% over the last five years, which potentially indicates that investors are accounting for this going forward. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.

On a final note, we found 2 warning signs for Towngas Smart Energy (1 shouldn't be ignored) you should be aware of.

While Towngas Smart Energy 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.

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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.