Returns On Capital Signal Tricky Times Ahead For Hercules Hoists (NSE:HERCULES)

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, from a first glance at Hercules Hoists (NSE:HERCULES) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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 Hercules Hoists:

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

0.0021 = ₹11m ÷ (₹5.3b - ₹145m) (Based on the trailing twelve months to March 2021).

Thus, Hercules Hoists has an ROCE of 0.2%. Ultimately, that's a low return and it under-performs the Machinery industry average of 12%.

View our latest analysis for Hercules Hoists

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Hercules Hoists' past further, check out this free graph of past earnings, revenue and cash flow.

What Can We Tell From Hercules Hoists' ROCE Trend?

When we looked at the ROCE trend at Hercules Hoists, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 0.2% from 2.5% five years ago. However it looks like Hercules Hoists might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.

On a side note, Hercules Hoists has done well to pay down its current liabilities to 2.8% 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.

In Conclusion...

Bringing it all together, while we're somewhat encouraged by Hercules Hoists' reinvestment in its own business, we're aware that returns are shrinking. Unsurprisingly, the stock has only gained 14% over the last five years, which potentially indicates that investors are accounting for this going forward. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.

One more thing, we've spotted 4 warning signs facing Hercules Hoists that you might find interesting.

While Hercules Hoists 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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