What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. However, after briefly looking over the numbers, we don't think Guoco Group (HKG:53) 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 that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Guoco Group, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.023 = US$365m ÷ (US$17b - US$1.7b) (Based on the trailing twelve months to December 2021).
Thus, Guoco Group has an ROCE of 2.3%. In absolute terms, that's a low return and it also under-performs the Industrials industry average of 3.3%.
View our latest analysis for Guoco GroupSEHK:53 Return on Capital Employed August 12th 2022
Historical performance is a great place to start when researching a stock so above you can see the gauge for Guoco Group's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Guoco Group, check out these free graphs here.
What Can We Tell From Guoco Group's ROCE Trend?
In terms of Guoco Group's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 3.0%, but since then they've fallen to 2.3%. 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.
On a related note, Guoco Group has decreased its current liabilities to 9.8% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.
The Bottom Line On Guoco Group's ROCE
In summary, despite lower returns in the short term, we're encouraged to see that Guoco Group is reinvesting for growth and has higher sales as a result. These trends don't appear to have influenced returns though, because the total return from the stock has been mostly flat over the last five years. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.
On a separate note, we've found 1 warning sign for Guoco Group you'll probably want to know about.
While Guoco Group 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.