Returns On Capital Signal Difficult Times Ahead For HS Hwasung (KRX:002460)

To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. A business that's potentially in decline often shows two trends, a return on capital employed (ROCE) that's declining, and a base of capital employed that's also declining. This indicates the company is producing less profit from its investments and its total assets are decreasing. Having said that, after a brief look, HS Hwasung (KRX:002460) we aren't filled with optimism, but let's investigate further.

What Is 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. To calculate this metric for HS Hwasung, this is the formula:

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

0.04 = ₩19b ÷ (₩1.0t - ₩534b) (Based on the trailing twelve months to September 2024).

So, HS Hwasung has an ROCE of 4.0%. In absolute terms, that's a low return and it also under-performs the Construction industry average of 6.6%.

Check out our latest analysis for HS Hwasung

Above you can see how the current ROCE for HS Hwasung compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for HS Hwasung .

What The Trend Of ROCE Can Tell Us

We are a bit worried about the trend of returns on capital at HS Hwasung. Unfortunately the returns on capital have diminished from the 6.7% that they were earning five years ago. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on HS Hwasung becoming one if things continue as they have.

On a side note, HS Hwasung's current liabilities have increased over the last five years to 53% of total assets, effectively distorting the ROCE to some degree. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. What this means is that in reality, a rather large portion of the business is being funded by the likes of the company's suppliers or short-term creditors, which can bring some risks of its own.

The Key Takeaway

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. Despite the concerning underlying trends, the stock has actually gained 5.1% over the last five years, so it might be that the investors are expecting the trends to reverse. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.

If you'd like to know more about HS Hwasung, we've spotted 3 warning signs, and 1 of them shouldn't be ignored.

While HS Hwasung 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.