Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Speaking of which, we noticed some great changes in Wisdom Education International Holdings' (HKG:6068) returns on capital, so let's have a look.
Understanding 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 Wisdom Education International Holdings:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.15 = CN¥109m ÷ (CN¥1.3b - CN¥577m) (Based on the trailing twelve months to February 2023).
So, Wisdom Education International Holdings has an ROCE of 15%. On its own, that's a standard return, however it's much better than the 10% generated by the Consumer Services industry.
View our latest analysis for Wisdom Education International Holdings
Historical performance is a great place to start when researching a stock so above you can see the gauge for Wisdom Education International Holdings' ROCE against it's prior returns. If you'd like to look at how Wisdom Education International Holdings 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
You'd find it hard not to be impressed with the ROCE trend at Wisdom Education International Holdings. We found that the returns on capital employed over the last five years have risen by 59%. The company is now earning CN¥0.1 per dollar of capital employed. Interestingly, the business may be becoming more efficient because it's applying 77% less capital than it was five years ago. A business that's shrinking its asset base like this isn't usually typical of a soon to be multi-bagger company.
On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. The current liabilities has increased to 44% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. And with current liabilities at those levels, that's pretty high.
The Bottom Line
From what we've seen above, Wisdom Education International Holdings has managed to increase it's returns on capital all the while reducing it's capital base. Although the company may be facing some issues elsewhere since the stock has plunged 88% in the last five years. Regardless, we think the underlying fundamentals warrant this stock for further investigation.
If you'd like to know more about Wisdom Education International Holdings, we've spotted 2 warning signs, and 1 of them shouldn't be ignored.
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.