The Returns On Capital At ETS Group (HKG:8031) Don't Inspire Confidence

When researching a stock for investment, what can tell us that the company is in decline? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. This combination can tell you that not only is the company investing less, it's earning less on what it does invest. Having said that, after a brief look, ETS Group (HKG:8031) we aren't filled with optimism, but let's investigate further.

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

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for ETS Group:

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

0.025 = HK$3.0m ÷ (HK$169m - HK$45m) (Based on the trailing twelve months to September 2020).

Thus, ETS Group has an ROCE of 2.5%. Ultimately, that's a low return and it under-performs the Commercial Services industry average of 9.9%.

View our latest analysis for ETS Group

Historical performance is a great place to start when researching a stock so above you can see the gauge for ETS Group's ROCE against it's prior returns. If you'd like to look at how ETS Group has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

How Are Returns Trending?

We are a bit worried about the trend of returns on capital at ETS Group. To be more specific, the ROCE was 6.5% five years ago, but since then it has dropped noticeably. Meanwhile, capital employed in the business has stayed roughly the flat over the period. 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 ETS Group to turn into a multi-bagger.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 27%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 2.5%. Keep an eye on this ratio, because the business could encounter some new risks if this metric gets too high.

What We Can Learn From ETS Group's ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. Investors haven't taken kindly to these developments, since the stock has declined 69% from where it was five years ago. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

ETS Group does come with some risks though, we found 4 warning signs in our investment analysis, and 1 of those is a bit concerning...

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 ETS Group 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.