Is Luzhou Xinglu Water (Group) (HKG:2281) Likely To Turn Things Around?

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. Having said that, from a first glance at Luzhou Xinglu Water (Group) (HKG:2281) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Return On Capital Employed (ROCE): What is it?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Luzhou Xinglu Water (Group):

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

0.062 = CN¥278m ÷ (CN¥5.9b - CN¥1.4b) (Based on the trailing twelve months to June 2020).

Therefore, Luzhou Xinglu Water (Group) has an ROCE of 6.2%. On its own, that's a low figure but it's around the 7.4% average generated by the Water Utilities industry.

View our latest analysis for Luzhou Xinglu Water (Group)

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'd like to look at how Luzhou Xinglu Water (Group) has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Luzhou Xinglu Water (Group) Tell Us?

When we looked at the ROCE trend at Luzhou Xinglu Water (Group), we didn't gain much confidence. Over the last five years, returns on capital have decreased to 6.2% from 12% 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. If these investments prove successful, this can bode very well for long term stock performance.

The Key Takeaway

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Luzhou Xinglu Water (Group). These growth trends haven't led to growth returns though, since the stock has fallen 15% over the last three years. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

One more thing: We've identified 4 warning signs with Luzhou Xinglu Water (Group) (at least 2 which make us uncomfortable) , and understanding them would certainly be useful.

While Luzhou Xinglu Water (Group) 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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