This analysis is intended to introduce important early concepts to people who are starting to invest and looking to gauge the potential return on investment in Chant West Holdings Limited (ASX:CWL).
If you purchase a CWL share you are effectively becoming a partner with many other shareholders. Your equity share is granted in return for the capital provided to the business to operate, and in order for an investment to be successful the business has to create earnings from the funds that make up this capital. Your return is tied to CWL’s ability to do this because the amount earned is used to invest in opportunities to grow the business or payout dividends, which are the two sources of return on investment. Thus, to understand how your money can grow by investing in Chant West Holdings, you need to look at what the company returns to owners for the use of their capital, which can be done in many ways but today we will use return on capital employed (ROCE).Check out our latest analysis for Chant West Holdings
Calculating Return On Capital Employed for CWL
When you choose to invest in a company, there is an opportunity cost because that money could’ve been invested elsewhere. The cost of missing out on another opportunity comes in the form of the potential long term gain you could’ve received, which is dependent on the gap between the return on capital you could’ve achieved and that of the company you invested in. Hence, capital returns are very important, and should be examined before you invest in conjunction with a certain benchmark that represents the minimum return you require to be compensated for the risk of missing out on other potentially lucrative investments. To determine Chant West Holdings’s capital return we will use ROCE, which tells us how much the company makes from the capital employed in their operations (for things like machinery, wages etc). Take a look at the formula box beneath:
ROCE Calculation for CWL
Return on Capital Employed (ROCE) = Earnings Before Tax (EBT) ÷ (Capital Employed)
Capital Employed = (Total Assets – Current Liabilities)
∴ ROCE = AU$255.78K ÷ (AU$14.46M – AU$3.89M) = 2.42%
The calculation above shows that CWL’s earnings were 2.42% of capital employed. This makes Chant West Holdings disappointing when compared to a robust 15% ROCE yardstick. So if this rate continues in to the future, investor capital may be able to compound over time, but not to standard that investors should be aiming for.
What is causing this?
Chant West Holdings’s relatively poor ROCE is tied to the movement in two factors that change over time: earnings and capital requirements. At the moment Chant West Holdings is in an adverse position, but this can change if these factors improve. Because of this, it is important to look beyond the final value of CWL’s ROCE and understand what is happening to the individual components. If you go back three years, you’ll find that CWL’s ROCE has decreased from 5.00%. We can see that earnings have actually increased from -AU$3.96K to AU$255.78K but capital employed has grown by a proportionally greater amount due to a rise in total assets , indicating that the previous growth in earnings has not been able to improve ROCE because the company now needs to employ more capital to operate the business.
ROCE for CWL investors has fallen in the last few years and is currently at a level that makes us question whether the company is capable of providing a suitable return on investment. But don’t forget, return on capital employed is a static metric that should be looked at in conjunction with other fundamental indicators like the management team. If you’re building your portfolio and want to take a deeper look, I’ve added a few links below that will help you further evaluate CWL or move on to other alternatives.
- Management:Have insiders been ramping up their shares to take advantage of the market’s sentiment for Chant West Holdings’s future outlook? Check out our management and board analysis with insights on CEO compensation and governance factors.
- Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.