Returns On Capital Signal Difficult Times Ahead For Highlight Communications (ETR:HLG)

If you're looking at a mature business that's past the growth phase, what are some of the underlying trends that pop up? Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount of capital employed. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. Having said that, after a brief look, Highlight Communications (ETR:HLG) we aren't filled with optimism, but let's investigate further.

What Is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Highlight Communications, this is the formula:

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

0.035 = CHF7.2m ÷ (CHF641m - CHF436m) (Based on the trailing twelve months to June 2024).

Thus, Highlight Communications has an ROCE of 3.5%. In absolute terms, that's a low return and it also under-performs the Entertainment industry average of 17%.

View our latest analysis for Highlight Communications

In the above chart we have measured Highlight Communications' prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Highlight Communications .

What Can We Tell From Highlight Communications' ROCE Trend?

We are a bit anxious about the trends of ROCE at Highlight Communications. Unfortunately, returns have declined substantially over the last five years to the 3.5% we see today. In addition to that, Highlight Communications is now employing 29% less capital than it was five years ago. The combination of lower ROCE and less capital employed can indicate that a business is likely to be facing some competitive headwinds or seeing an erosion to its moat. Typically businesses that exhibit these characteristics aren't the ones that tend to multiply over the long term, because statistically speaking, they've already gone through the growth phase of their life cycle.

On a side note, Highlight Communications' current liabilities have increased over the last five years to 68% of total assets, effectively distorting the ROCE to some degree. Without this increase, it's likely that ROCE would be even lower than 3.5%. And with current liabilities at these levels, suppliers or short-term creditors are effectively funding a large part of the business, which can introduce some risks.

The Bottom Line

In summary, it's unfortunate that Highlight Communications is shrinking its capital base and also generating lower returns. This could explain why the stock has sunk a total of 72% in the last five years. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

One final note, you should learn about the 3 warning signs we've spotted with Highlight Communications (including 1 which is significant) .

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.