The Returns At Xinyi Energy Holdings (HKG:3868) Aren't Growing

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. That's why when we briefly looked at Xinyi Energy Holdings' (HKG:3868) ROCE trend, we were pretty happy with what we saw.

Return On Capital Employed (ROCE): What Is It?

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. The formula for this calculation on Xinyi Energy Holdings is:

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

0.11 = HK$1.7b ÷ (HK$21b - HK$5.6b) (Based on the trailing twelve months to June 2022).

Therefore, Xinyi Energy Holdings has an ROCE of 11%. On its own, that's a standard return, however it's much better than the 6.6% generated by the Renewable Energy industry.

Our analysis indicates that 3868 is potentially undervalued!

In the above chart we have measured Xinyi Energy Holdings' 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 Xinyi Energy Holdings Tell Us?

While the returns on capital are good, they haven't moved much. The company has employed 107% more capital in the last five years, and the returns on that capital have remained stable at 11%. Since 11% is a moderate ROCE though, it's good to see a business can continue to reinvest at these decent rates of return. Over long periods of time, returns like these might not be too exciting, but with consistency they can pay off in terms of share price returns.

On another note, while the change in ROCE trend might not scream for attention, it's interesting that the current liabilities have actually gone up over the last five years. This is intriguing because if current liabilities hadn't increased to 27% of total assets, this reported ROCE would probably be less than11% because total capital employed would be higher.The 11% ROCE could be even lower if current liabilities weren't 27% of total assets, because the the formula would show a larger base of total capital employed. So while current liabilities isn't high right now, keep an eye out in case it increases further, because this can introduce some elements of risk.

The Bottom Line On Xinyi Energy Holdings' ROCE

To sum it up, Xinyi Energy Holdings has simply been reinvesting capital steadily, at those decent rates of return. Therefore it's no surprise that shareholders have earned a respectable 41% return if they held over the last three years. So while investors seem to be recognizing these promising trends, we still believe the stock deserves further research.

One more thing: We've identified 2 warning signs with Xinyi Energy Holdings (at least 1 which is significant) , and understanding these would certainly be useful.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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.