Some Investors May Be Worried About Eumundi Group's (ASX:EBG) Returns On Capital

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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. In light of that, when we looked at Eumundi Group (ASX:EBG) and its ROCE trend, we weren't exactly thrilled.

What is Return On Capital Employed (ROCE)?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Eumundi Group:

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

0.023 = AU$1.6m ÷ (AU$75m - AU$4.9m) (Based on the trailing twelve months to December 2020).

Thus, Eumundi Group has an ROCE of 2.3%. In absolute terms, that's a low return and it also under-performs the Hospitality industry average of 7.7%.

View our latest analysis for Eumundi Group

Historical performance is a great place to start when researching a stock so above you can see the gauge for Eumundi Group's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Eumundi Group, check out these free graphs here.

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Eumundi Group, we didn't gain much confidence. Around five years ago the returns on capital were 6.5%, but since then they've fallen to 2.3%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

The Bottom Line

From the above analysis, we find it rather worrisome that returns on capital and sales for Eumundi Group have fallen, meanwhile the business is employing more capital than it was five years ago. But investors must be expecting an improvement of sorts because over the last five yearsthe stock has delivered a respectable 89% return. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

Eumundi Group does have some risks, we noticed 4 warning signs (and 2 which don't sit too well with us) we think you should know about.

While Eumundi Group may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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