Does Starlite Holdings' (HKG:403) Returns On Capital Reflect Well On The Business?

When researching a stock for investment, what can tell us that the company is in decline? Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount 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. And from a first read, things don't look too good at Starlite Holdings (HKG:403), so let's see why.

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. Analysts use this formula to calculate it for Starlite Holdings:

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

0.029 = HK$11m ÷ (HK$1.1b - HK$713m) (Based on the trailing twelve months to September 2020).

So, Starlite Holdings has an ROCE of 2.9%. Ultimately, that's a low return and it under-performs the Packaging industry average of 11%.

View our latest analysis for Starlite Holdings

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

The Trend Of ROCE

In terms of Starlite Holdings' historical ROCE trend, it isn't fantastic. To be more specific, today's ROCE was 7.2% five years ago but has since fallen to 2.9%. In addition to that, Starlite Holdings is now employing 44% less capital than it was five years ago. The combination of lower ROCE and less capital employed can indicate that a business is likely to be facing some competitive headwinds or seeing an erosion to its moat. Typically businesses that exhibit these characteristics aren't the ones that tend to multiply over the long term, because statistically speaking, they've already gone through the growth phase of their life cycle.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 66%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 2.9%. And with current liabilities at these levels, suppliers or short-term creditors are effectively funding a large part of the business, which can introduce some risks.

The Bottom Line

In short, lower returns and decreasing amounts capital employed in the business doesn't fill us with confidence. Long term shareholders who've owned the stock over the last five years have experienced a 17% depreciation in their investment, so it appears the market might not like these trends either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

One final note, you should learn about the 3 warning signs we've spotted with Starlite Holdings (including 1 which is a bit concerning) .

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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