Some Investors May Be Worried About Kunlun Energy's (HKG:135) Returns On Capital

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. In light of that, when we looked at Kunlun Energy (HKG:135) 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. Analysts use this formula to calculate it for Kunlun Energy:

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

0.063 = CN¥7.0b ÷ (CN¥155b - CN¥45b) (Based on the trailing twelve months to December 2020).

So, Kunlun Energy has an ROCE of 6.3%. Ultimately, that's a low return and it under-performs the Gas Utilities industry average of 8.7%.

View our latest analysis for Kunlun Energy

In the above chart we have measured Kunlun Energy's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What Does the ROCE Trend For Kunlun Energy Tell Us?

In terms of Kunlun Energy's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 9.3% 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'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.

In Conclusion...

Bringing it all together, while we're somewhat encouraged by Kunlun Energy's reinvestment in its own business, we're aware that returns are shrinking. Since the stock has gained an impressive 42% over the last five years, investors must think there's better things to come. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

On a separate note, we've found 1 warning sign for Kunlun Energy you'll probably want to know about.

While Kunlun 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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