Returns On Capital Signal Tricky Times Ahead For Sunlight (1977) Holdings (HKG:8451)

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Although, when we looked at Sunlight (1977) Holdings (HKG:8451), it didn't seem to tick all of these boxes.

What Is Return On Capital Employed (ROCE)?

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 Sunlight (1977) Holdings:

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

0.017 = S$309k ÷ (S$19m - S$1.2m) (Based on the trailing twelve months to March 2023).

Thus, Sunlight (1977) Holdings has an ROCE of 1.7%. In absolute terms, that's a low return and it also under-performs the Retail Distributors industry average of 3.7%.

See our latest analysis for Sunlight (1977) Holdings

Historical performance is a great place to start when researching a stock so above you can see the gauge for Sunlight (1977) Holdings' ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Sunlight (1977) Holdings, check out these free graphs here.

What Does the ROCE Trend For Sunlight (1977) Holdings Tell Us?

On the surface, the trend of ROCE at Sunlight (1977) Holdings doesn't inspire confidence. Around five years ago the returns on capital were 15%, but since then they've fallen to 1.7%. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Sunlight (1977) Holdings has done well to pay down its current liabilities to 6.2% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Key Takeaway

While returns have fallen for Sunlight (1977) Holdings in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. These growth trends haven't led to growth returns though, since the stock has fallen 65% over the last five years. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

Sunlight (1977) Holdings does come with some risks though, we found 2 warning signs in our investment analysis, and 1 of those makes us a bit uncomfortable...

While Sunlight (1977) Holdings 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.