Aviation Links (TLV:AVIA) May Have Issues Allocating Its Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. However, after investigating Aviation Links (TLV:AVIA), we don't think it's current trends fit the mold of a multi-bagger.

Understanding 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. Analysts use this formula to calculate it for Aviation Links:

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

0.062 = US$2.0m ÷ (US$96m - US$65m) (Based on the trailing twelve months to June 2022).

Therefore, Aviation Links has an ROCE of 6.2%. In absolute terms, that's a low return, but it's much better than the Hospitality industry average of 4.5%.

Our analysis indicates that AVIA is potentially undervalued!

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

The Trend Of ROCE

When we looked at the ROCE trend at Aviation Links, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 6.2% from 28% five years ago. 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, Aviation Links has done well to pay down its current liabilities to 67% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money. Keep in mind 67% is still pretty high, so those risks are still somewhat prevalent.

The Key Takeaway

In summary, despite lower returns in the short term, we're encouraged to see that Aviation Links is reinvesting for growth and has higher sales as a result. These growth trends haven't led to growth returns though, since the stock has fallen 44% over the last five years. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

If you want to know some of the risks facing Aviation Links we've found 3 warning signs (1 can't be ignored!) that you should be aware of before investing here.

While Aviation Links 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.