Be Wary Of Huaneng Power International (HKG:902) And Its Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount 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. In light of that, when we looked at Huaneng Power International (HKG:902) and its ROCE trend, we weren't exactly thrilled.

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 Huaneng Power International is:

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

0.028 = CN¥8.6b ÷ (CN¥453b - CN¥150b) (Based on the trailing twelve months to September 2021).

Therefore, Huaneng Power International has an ROCE of 2.8%. In absolute terms, that's a low return and it also under-performs the Renewable Energy industry average of 6.8%.

See our latest analysis for Huaneng Power International

In the above chart we have measured Huaneng Power International's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Huaneng Power International here for free.

How Are Returns Trending?

When we looked at the ROCE trend at Huaneng Power International, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 2.8% from 16% 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 Bottom Line

In summary, despite lower returns in the short term, we're encouraged to see that Huaneng Power International is reinvesting for growth and has higher sales as a result. In light of this, the stock has only gained 25% over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

Huaneng Power International does have some risks, we noticed 3 warning signs (and 1 which is significant) we think you should know about.

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.

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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.