What HBL Power Systems' (NSE:HBLPOWER) Returns On Capital Can Tell Us

If you're looking at a mature business that's past the growth phase, what are some of the underlying trends that pop up? 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 the company is producing less profit from its investments and its total assets are decreasing. So after we looked into HBL Power Systems (NSE:HBLPOWER), the trends above didn't look too great.

Understanding 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. The formula for this calculation on HBL Power Systems is:

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

0.03 = ₹233m ÷ (₹11b - ₹2.7b) (Based on the trailing twelve months to September 2020).

Therefore, HBL Power Systems has an ROCE of 3.0%. In absolute terms, that's a low return and it also under-performs the Electrical industry average of 11%.

Check out our latest analysis for HBL Power Systems

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

What The Trend Of ROCE Can Tell Us

In terms of HBL Power Systems' historical ROCE movements, the trend doesn't inspire confidence. About five years ago, returns on capital were 12%, however they're now substantially lower than that as we saw above. Meanwhile, capital employed in the business has stayed roughly the flat over the period. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. If these trends continue, we wouldn't expect HBL Power Systems to turn into a multi-bagger.

On a side note, HBL Power Systems has done well to pay down its current liabilities to 26% of total assets. So we could link some of this to the decrease in ROCE. 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.

In Conclusion...

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. Investors must expect better things on the horizon though because the stock has risen 4.7% in the last five years. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

If you'd like to know more about HBL Power Systems, we've spotted 4 warning signs, and 1 of them is potentially serious.

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.

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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.
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