We Like These Underlying Return On Capital Trends At First Tractor (HKG:38)

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. So when we looked at First Tractor (HKG:38) and its trend of ROCE, we really liked what we saw.

What Is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on First Tractor is:

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

0.10 = CN¥756m ÷ (CN¥14b - CN¥6.8b) (Based on the trailing twelve months to March 2023).

So, First Tractor has an ROCE of 10%. On its own, that's a standard return, however it's much better than the 7.3% generated by the Machinery industry.

View our latest analysis for First Tractor

Above you can see how the current ROCE for First Tractor compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering First Tractor here for free.

SWOT Analysis for First Tractor

What The Trend Of ROCE Can Tell Us

We're delighted to see that First Tractor is reaping rewards from its investments and has now broken into profitability. While the business was unprofitable in the past, it's now turned things around and is earning 10% on its capital. While returns have increased, the amount of capital employed by First Tractor has remained flat over the period. With no noticeable increase in capital employed, it's worth knowing what the company plans on doing going forward in regards to reinvesting and growing the business. So if you're looking for high growth, you'll want to see a business's capital employed also increasing.

Another thing to note, First Tractor has a high ratio of current liabilities to total assets of 48%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Key Takeaway

As discussed above, First Tractor appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. And with a respectable 64% awarded to those who held the stock over the last five years, you could argue that these developments are starting to get the attention they deserve. In light of that, we think it's worth looking further into this stock because if First Tractor can keep these trends up, it could have a bright future ahead.

On a separate note, we've found 2 warning signs for First Tractor you'll probably want to know about.

While First Tractor isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.