Capital Allocation Trends At ELL Environmental Holdings (HKG:1395) Aren't Ideal

When we're researching a company, it's sometimes hard to find the warning signs, but there are some financial metrics that can help spot trouble early. Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. Basically the company is earning less on its investments and it is also reducing its total assets. And from a first read, things don't look too good at ELL Environmental Holdings (HKG:1395), so let's see why.

What is 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 ELL Environmental Holdings:

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

0.013 = HK$5.6m ÷ (HK$511m - HK$76m) (Based on the trailing twelve months to June 2021).

Therefore, ELL Environmental Holdings has an ROCE of 1.3%. In absolute terms, that's a low return and it also under-performs the Water Utilities industry average of 7.3%.

View our latest analysis for ELL Environmental Holdings

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you want to delve into the historical earnings, revenue and cash flow of ELL Environmental Holdings, check out these free graphs here.

What Can We Tell From ELL Environmental Holdings' ROCE Trend?

We are a bit anxious about the trends of ROCE at ELL Environmental Holdings. Unfortunately, returns have declined substantially over the last five years to the 1.3% we see today. In addition to that, ELL Environmental Holdings is now employing 21% less capital than it was five years ago. The fact that both are shrinking is an indication that the business is going through some tough times. Typically businesses that exhibit these characteristics aren't the ones that tend to multiply over the long term, because statistically speaking, they've already gone through the growth phase of their life cycle.

What We Can Learn From ELL Environmental Holdings' ROCE

In summary, it's unfortunate that ELL Environmental Holdings is shrinking its capital base and also generating lower returns. Long term shareholders who've owned the stock over the last five years have experienced a 66% depreciation in their investment, so it appears the market might not like these trends either. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

If you want to know some of the risks facing ELL Environmental Holdings we've found 4 warning signs (1 is a bit unpleasant!) that you should be aware of before investing here.

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.

If you're looking for stocks to buy, use the lowest-cost* platform that is rated #1 Overall by Barron’s, Interactive Brokers. Trade stocks, options, futures, forex, bonds and funds on 135 markets, all 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.