Be Wary Of EVA Precision Industrial Holdings (HKG:838) And Its Returns On Capital

When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. On that note, looking into EVA Precision Industrial Holdings (HKG:838), we weren't too upbeat about how things were going.

Return On Capital Employed (ROCE): What is it?

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. To calculate this metric for EVA Precision Industrial Holdings, this is the formula:

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

0.024 = HK$80m ÷ (HK$6.1b - HK$2.8b) (Based on the trailing twelve months to December 2020).

Therefore, EVA Precision Industrial Holdings has an ROCE of 2.4%. Ultimately, that's a low return and it under-performs the Machinery industry average of 9.1%.

Check out our latest analysis for EVA Precision Industrial Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for EVA Precision Industrial Holdings' ROCE against it's prior returns. If you're interested in investigating EVA Precision Industrial Holdings' past further, check out this free graph of past earnings, revenue and cash flow.

What Can We Tell From EVA Precision Industrial Holdings' ROCE Trend?

In terms of EVA Precision Industrial Holdings' historical ROCE movements, the trend doesn't inspire confidence. About five years ago, returns on capital were 7.8%, however they're now substantially lower than that as we saw above. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. If these trends continue, we wouldn't expect EVA Precision Industrial Holdings to turn into a multi-bagger.

On a side note, EVA Precision Industrial Holdings' current liabilities are still rather high at 45% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line

In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. Long term shareholders who've owned the stock over the last five years have experienced a 19% depreciation in their investment, so it appears the market might not like these trends either. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

If you'd like to know about the risks facing EVA Precision Industrial Holdings, we've discovered 2 warning signs that you should be aware of.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

When trading stocks or any other investment, use the platform considered by many to be the Professional's Gateway to the Worlds Market, Interactive Brokers. You get the lowest-cost* trading on stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.