H.G. Infra Engineering's (NSE:HGINFRA) Returns On Capital Not Reflecting Well On The Business

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So when we looked at H.G. Infra Engineering (NSE:HGINFRA), they do have a high ROCE, but we weren't exactly elated from how returns are trending.

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 H.G. Infra Engineering:

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

0.30 = ₹5.2b ÷ (₹27b - ₹9.7b) (Based on the trailing twelve months to June 2021).

So, H.G. Infra Engineering has an ROCE of 30%. In absolute terms that's a great return and it's even better than the Construction industry average of 10%.

View our latest analysis for H.G. Infra Engineering

In the above chart we have measured H.G. Infra Engineering's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for H.G. Infra Engineering.

What Does the ROCE Trend For H.G. Infra Engineering Tell Us?

On the surface, the trend of ROCE at H.G. Infra Engineering doesn't inspire confidence. To be more specific, while the ROCE is still high, it's fallen from 42% where it was 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. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, H.G. Infra Engineering has decreased its current liabilities to 36% 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.

The Bottom Line On H.G. Infra Engineering's ROCE

While returns have fallen for H.G. Infra Engineering in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And long term investors must be optimistic going forward because the stock has returned a huge 297% to shareholders in the last three years. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

If you want to know some of the risks facing H.G. Infra Engineering we've found 2 warning signs (1 makes us a bit uncomfortable!) that you should be aware of before investing here.

If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets here.

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.

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