Hill & Smith Holdings (LON:HILS) May Have Issues Allocating Its Capital

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. In light of that, when we looked at Hill & Smith Holdings (LON:HILS) and its ROCE trend, we weren't exactly thrilled.

What is Return On Capital Employed (ROCE)?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on Hill & Smith Holdings is:

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

0.084 = UK£43m ÷ (UK£647m - UK£143m) (Based on the trailing twelve months to December 2020).

Therefore, Hill & Smith Holdings has an ROCE of 8.4%. Ultimately, that's a low return and it under-performs the Metals and Mining industry average of 14%.

Check out our latest analysis for Hill & Smith Holdings

In the above chart we have measured Hill & Smith Holdings' prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

How Are Returns Trending?

On the surface, the trend of ROCE at Hill & Smith Holdings doesn't inspire confidence. Around five years ago the returns on capital were 11%, but since then they've fallen to 8.4%. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

Our Take On Hill & Smith Holdings' ROCE

Bringing it all together, while we're somewhat encouraged by Hill & Smith Holdings' reinvestment in its own business, we're aware that returns are shrinking. Since the stock has gained an impressive 80% over the last five years, investors must think there's better things to come. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

One more thing to note, we've identified 3 warning signs with Hill & Smith Holdings and understanding them should be part of your investment process.

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. 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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