Investors Will Want CGN Power's (HKG:1816) Growth In ROCE To Persist

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Speaking of which, we noticed some great changes in CGN Power's (HKG:1816) returns on capital, so let's have a look.

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 CGN Power, this is the formula:

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

0.073 = CN¥24b ÷ (CN¥403b - CN¥74b) (Based on the trailing twelve months to March 2022).

Therefore, CGN Power has an ROCE of 7.3%. On its own that's a low return on capital but it's in line with the industry's average returns of 6.7%.

See our latest analysis for CGN Power

In the above chart we have measured CGN Power'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 Can We Tell From CGN Power's ROCE Trend?

CGN Power's ROCE growth is quite impressive. The figures show that over the last five years, ROCE has grown 58% whilst employing roughly the same amount of capital. So our take on this is that the business has increased efficiencies to generate these higher returns, all the while not needing to make any additional investments. The company is doing well in that sense, and it's worth investigating what the management team has planned for long term growth prospects.

In Conclusion...

As discussed above, CGN Power appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. Since the stock has only returned 12% to shareholders over the last five years, the promising fundamentals may not be recognized yet by investors. Given that, we'd look further into this stock in case it has more traits that could make it multiply in the long term.

CGN Power does come with some risks though, we found 2 warning signs in our investment analysis, and 1 of those can't be ignored...

While CGN Power isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.