Did you know there are some financial metrics that can provide clues of a potential multi-bagger? 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. In light of that, when we looked at HPC Holdings (HKG:1742) and its ROCE trend, we weren't exactly thrilled.
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 HPC Holdings:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.041 = S$4.3m ÷ (S$180m - S$75m) (Based on the trailing twelve months to October 2023).
Thus, HPC Holdings has an ROCE of 4.1%. Ultimately, that's a low return and it under-performs the Construction industry average of 7.6%.
See our latest analysis for HPC Holdings
Historical performance is a great place to start when researching a stock so above you can see the gauge for HPC Holdings' ROCE against it's prior returns. If you want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of HPC Holdings.
What Can We Tell From HPC Holdings' ROCE Trend?
In terms of HPC Holdings' historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 4.1% from 20% five years ago. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.
On a separate but related note, it's important to know that HPC Holdings has a current liabilities to total assets ratio of 42%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
Our Take On HPC Holdings' ROCE
In summary, despite lower returns in the short term, we're encouraged to see that HPC Holdings is reinvesting for growth and has higher sales as a result. But since the stock has dived 76% in the last five years, there could be other drivers that are influencing the business' outlook. Therefore, we'd suggest researching the stock further to uncover more about the business.
One more thing: We've identified 2 warning signs with HPC Holdings (at least 1 which is a bit concerning) , and understanding these would certainly be useful.
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.
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