Will Ho Tung Chemical's (TPE:1714) Growth In ROCE Persist?

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. So on that note, Ho Tung Chemical (TPE:1714) looks quite promising in regards to its trends of return on capital.

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 Ho Tung Chemical is:

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

0.17 = NT$3.3b ÷ (NT$24b - NT$4.6b) (Based on the trailing twelve months to September 2020).

Therefore, Ho Tung Chemical has an ROCE of 17%. On its own, that's a standard return, however it's much better than the 6.9% generated by the Chemicals industry.

See our latest analysis for Ho Tung Chemical

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 Ho Tung Chemical has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

We're delighted to see that Ho Tung Chemical is reaping rewards from its investments and has now broken into profitability. The company was generating losses five years ago, but has managed to turn it around and as we saw earlier is now earning 17%, which is always encouraging. On top of that, what's interesting is that the amount of capital being employed has remained steady, so the business hasn't needed to put any additional money to work to generate these higher returns. That being said, while an increase in efficiency is no doubt appealing, it'd be helpful to know if the company does have any investment plans going forward. After all, a company can only become a long term multi-bagger if it continually reinvests in itself at high rates of return.

In another part of our analysis, we noticed that the company's ratio of current liabilities to total assets decreased to 19%, which broadly means the business is relying less on its suppliers or short-term creditors to fund its operations. Therefore we can rest assured that the growth in ROCE is a result of the business' fundamental improvements, rather than a cooking class featuring this company's books.

What We Can Learn From Ho Tung Chemical's ROCE

To bring it all together, Ho Tung Chemical has done well to increase the returns it's generating from its capital employed. Since the stock has returned a solid 43% to shareholders over the last five years, it's fair to say investors are beginning to recognize these changes. Therefore, we think it would be worth your time to check if these trends are going to continue.

Before jumping to any conclusions though, we need to know what value we're getting for the current share price. That's where you can check out our FREE intrinsic value estimation that compares the share price and estimated value.

While Ho Tung Chemical 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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