HCL Technologies Limited (NSE:HCLTECH): Why Return On Capital Employed Is Important

I am writing today to help inform people who are new to the stock market and want to better understand how you can grow your money by investing in HCL Technologies Limited (NSE:HCLTECH).

Purchasing HCL Technologies gives you an ownership stake in the company. As a result, your investment is being put to work to fund operations and if you want to earn an attractive return on your investment, the business needs to be making an adequate amount of money from the funds you provide. You need to pay attention to this because your return on investment is linked to dividends and internal investments to improve the business, which can only occur if the company is expected to produce adequate earnings with the capital that has been provided. To understand HCL Technologies’s capital returns we will look at a useful metric called return on capital employed. This will tell us if the company is growing your capital and placing you in good stead to sell your shares at a profit.

View our latest analysis for HCL Technologies

Calculating Return On Capital Employed for HCLTECH

Choosing to invest in HCL Technologies comes at the cost of investing in another potentially favourable company. Accordingly, before you invest you need to assess the capital returns that the company has produced with reference to a certain benchmark to ensure that you are confident in the business’ ability to grow your capital at a level that grants an investment over other companies. A good metric to use is return on capital employed (ROCE), which helps us gauge how much income can be created from the funds needed to operate the business. This metric will tell us if HCL Technologies is good at growing investor capital. I have calculated HCL Technologies’s ROCE for you below:

ROCE Calculation for HCLTECH

Return on Capital Employed (ROCE) = Earnings Before Tax (EBT) ÷ (Capital Employed)

Capital Employed = (Total Assets – Current Liabilities)

∴ ROCE = US$1.74b ÷ (US$7.53b – US$1.60b) = 29.4%

As you can see, HCLTECH earned ₹29.4 from every ₹100 you invested over the previous twelve months. Comparing this to a healthy 15% benchmark shows HCL Technologies is currently able to return a fantastic amount to owners for the use of their capital, which is a good sign for those who believe this will continue and the company’s management will find good uses for the earnings they create.

NSEI:HCLTECH Last Perf August 30th 18
NSEI:HCLTECH Last Perf August 30th 18

Not so fast

HCL Technologies’s relatively strong ROCE is tied to the movement in two factors that change over time: earnings and capital requirements. At the moment HCL Technologies is in a favourable position, but this can change if these factors underperform. Because of this, it is important to look beyond the final value of HCLTECH’s ROCE and understand what is happening to the individual components. Three years ago, HCLTECH’s ROCE was 35.1%, which means the company’s capital returns have worsened. We can see that earnings have actually increased from US$1.44b to US$1.74b but capital employed has increased by a proportionally greater amount as a result of a rise in total assets , which means that although earnings have increased, HCLTECH requires more capital to produce each ₹1 of earnings.

Next Steps

ROCE for HCLTECH investors has declined in the last few years, however, the company still remains an attractive candidate that is capable of producing solid capital returns and a potentially strong return on investment. It is important to know that ROCE does not dictate returns alone, so you need to consider other fundamentals in the business such as future prospects and valuation. It’s important to account for these factors because you cannot be sure if the downward path is a signal to run, or just a blip in an otherwise solid return profile. If you’re building your portfolio and want to take a deeper look, I’ve added a few links below that will help you further evaluate HCLTECH or other alternatives.

  1. Future Outlook: What are well-informed industry analysts predicting for HCLTECH’s future growth? Take a look at our free research report of analyst consensus for HCLTECH’s outlook.
  2. Valuation: What is HCLTECH worth today? Is the stock undervalued, even if its ROCE is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether HCLTECH is currently mispriced by the market.
  3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.