There Are Reasons To Feel Uneasy About HFCL's (NSE:HFCL) Returns On Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. Having said that, from a first glance at HFCL (NSE:HFCL) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Return On Capital Employed (ROCE): What Is It?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on HFCL is:

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

0.12 = ₹4.7b ÷ (₹59b - ₹21b) (Based on the trailing twelve months to December 2023).

Thus, HFCL has an ROCE of 12%. In absolute terms, that's a pretty standard return but compared to the Telecom industry average it falls behind.

Check out our latest analysis for HFCL

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'd like to look at how HFCL has performed in the past in other metrics, you can view this free graph of HFCL's past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

The trend of ROCE doesn't look fantastic because it's fallen from 24% five years ago, while the business's capital employed increased by 165%. That being said, HFCL raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. It's unlikely that all of the funds raised have been put to work yet, so as a consequence HFCL might not have received a full period of earnings contribution from it. Additionally, we found that HFCL's most recent EBIT figure is around the same as the prior year, so we'd attribute the drop in ROCE mostly to the capital raise.

On a side note, HFCL has done well to pay down its current liabilities to 35% 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. 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...

To conclude, we've found that HFCL is reinvesting in the business, but returns have been falling. Investors must think there's better things to come because the stock has knocked it out of the park, delivering a 428% gain to shareholders who have held over the last five years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

If you'd like to know about the risks facing HFCL, we've discovered 2 warning signs that you should be aware of.

While HFCL 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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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.