Tat Hong Equipment Service (HKG:2153) Will Be Hoping To Turn Its Returns On Capital Around

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Tat Hong Equipment Service (HKG:2153) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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 Tat Hong Equipment Service is:

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

0.018 = CN¥41m ÷ (CN¥3.2b - CN¥869m) (Based on the trailing twelve months to March 2023).

Thus, Tat Hong Equipment Service has an ROCE of 1.8%. Ultimately, that's a low return and it under-performs the Construction industry average of 6.1%.

View our latest analysis for Tat Hong Equipment Service

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

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Tat Hong Equipment Service, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 1.8% from 6.4% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

Our Take On Tat Hong Equipment Service's ROCE

We're a bit apprehensive about Tat Hong Equipment Service because despite more capital being deployed in the business, returns on that capital and sales have both fallen. And long term shareholders have watched their investments stay flat over the last year. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

One more thing to note, we've identified 2 warning signs with Tat Hong Equipment Service and understanding them should be part of your investment process.

While Tat Hong Equipment Service 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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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.