Yunnan Water Investment (HKG:6839) Might Be Having Difficulty Using Its Capital Effectively

What are the early trends we should look for to identify a stock that could multiply in value over the long term? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after briefly looking over the numbers, we don't think Yunnan Water Investment (HKG:6839) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What Is 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. Analysts use this formula to calculate it for Yunnan Water Investment:

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

0.014 = CN¥298m ÷ (CN¥48b - CN¥27b) (Based on the trailing twelve months to December 2021).

Therefore, Yunnan Water Investment has an ROCE of 1.4%. In absolute terms, that's a low return and it also under-performs the Water Utilities industry average of 8.1%.

Check out our latest analysis for Yunnan Water Investment

Historical performance is a great place to start when researching a stock so above you can see the gauge for Yunnan Water Investment's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Yunnan Water Investment, check out these free graphs here.

The Trend Of ROCE

In terms of Yunnan Water Investment's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 1.4% from 4.7% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a side note, Yunnan Water Investment's current liabilities have increased over the last five years to 56% of total assets, effectively distorting the ROCE to some degree. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. What this means is that in reality, a rather large portion of the business is being funded by the likes of the company's suppliers or short-term creditors, which can bring some risks of its own.

In Conclusion...

From the above analysis, we find it rather worrisome that returns on capital and sales for Yunnan Water Investment have fallen, meanwhile the business is employing more capital than it was five years ago. We expect this has contributed to the stock plummeting 85% during the last five years. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

If you'd like to know more about Yunnan Water Investment, we've spotted 3 warning signs, and 2 of them make us uncomfortable.

While Yunnan Water Investment 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.