How Has Hwaseung R&A (KRX:013520) Allocated Its Capital?

What underlying fundamental trends can indicate that a company might be in decline? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. This indicates the company is producing less profit from its investments and its total assets are decreasing. And from a first read, things don't look too good at Hwaseung R&A (KRX:013520), so let's see why.

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. To calculate this metric for Hwaseung R&A, this is the formula:

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

0.061 = ₩24b ÷ (₩1.3t - ₩858b) (Based on the trailing twelve months to September 2020).

Therefore, Hwaseung R&A has an ROCE of 6.2%. On its own that's a low return, but compared to the average of 4.1% generated by the Auto Components industry, it's much better.

See our latest analysis for Hwaseung R&A

Historical performance is a great place to start when researching a stock so above you can see the gauge for Hwaseung R&A's ROCE against it's prior returns. If you'd like to look at how Hwaseung R&A has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

The Trend Of ROCE

We are a bit worried about the trend of returns on capital at Hwaseung R&A. About five years ago, returns on capital were 22%, however they're now substantially lower than that as we saw above. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. 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. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Hwaseung R&A becoming one if things continue as they have.

On a separate but related note, it's important to know that Hwaseung R&A has a current liabilities to total assets ratio of 68%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

What We Can Learn From Hwaseung R&A's ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. Investors haven't taken kindly to these developments, since the stock has declined 17% from where it was five years ago. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

Hwaseung R&A does come with some risks though, we found 4 warning signs in our investment analysis, and 2 of those are a bit unpleasant...

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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