If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? 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 Frontier Services Group's (HKG:500) 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. To calculate this metric for Frontier Services Group, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.09 = HK$48m ÷ (HK$1.1b - HK$520m) (Based on the trailing twelve months to December 2023).
Thus, Frontier Services Group has an ROCE of 9.0%. In absolute terms, that's a low return, but it's much better than the Logistics industry average of 6.4%.
View our latest analysis for Frontier Services Group
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 Frontier Services Group has performed in the past in other metrics, you can view this free graph of Frontier Services Group's past earnings, revenue and cash flow.
What Can We Tell From Frontier Services Group's ROCE Trend?
It's great to see that Frontier Services Group has started to generate some pre-tax earnings from prior investments. Historically the company was generating losses but as we can see from the latest figures referenced above, they're now earning 9.0% on their capital employed. Additionally, the business is utilizing 58% less capital than it was five years ago, and taken at face value, that can mean the company needs less funds at work to get a return. The reduction could indicate that the company is selling some assets, and considering returns are up, they appear to be selling the right ones.
For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. Essentially the business now has suppliers or short-term creditors funding about 49% of its operations, which isn't ideal. And with current liabilities at those levels, that's pretty high.
What We Can Learn From Frontier Services Group's ROCE
In a nutshell, we're pleased to see that Frontier Services Group has been able to generate higher returns from less capital. Although the company may be facing some issues elsewhere since the stock has plunged 81% in the last five years. Still, it's worth doing some further research to see if the trends will continue into the future.
One more thing, we've spotted 2 warning signs facing Frontier Services Group that you might find interesting.
While Frontier Services 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.
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