What Korea Engineering Consultants' (KRX:023350) Returns On Capital Can Tell Us

When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that's often how a mature business shows signs of aging. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. So after we looked into Korea Engineering Consultants (KRX:023350), the trends above didn't look too great.

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 Korea Engineering Consultants:

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

0.0062 = ₩762m ÷ (₩259b - ₩135b) (Based on the trailing twelve months to September 2020).

Therefore, Korea Engineering Consultants has an ROCE of 0.6%. In absolute terms, that's a low return and it also under-performs the Construction industry average of 9.5%.

Check out our latest analysis for Korea Engineering Consultants

Historical performance is a great place to start when researching a stock so above you can see the gauge for Korea Engineering Consultants' ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Korea Engineering Consultants, check out these free graphs here.

What The Trend Of ROCE Can Tell Us

The trend of ROCE at Korea Engineering Consultants is showing some signs of weakness. To be more specific, today's ROCE was 1.5% five years ago but has since fallen to 0.6%. On top of that, the business is utilizing 28% less capital within its operations. When you see both ROCE and capital employed diminishing, it can often be a sign of a mature and shrinking business that might be in structural decline. If these underlying trends continue, we wouldn't be too optimistic going forward.

On a side note, Korea Engineering Consultants' current liabilities have increased over the last five years to 52% 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. And with current liabilities at these levels, suppliers or short-term creditors are effectively funding a large part of the business, which can introduce some risks.

What We Can Learn From Korea Engineering Consultants' ROCE

In summary, it's unfortunate that Korea Engineering Consultants is shrinking its capital base and also generating lower returns. Investors haven't taken kindly to these developments, since the stock has declined 17% from where it was five years ago. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

If you'd like to know more about Korea Engineering Consultants, we've spotted 2 warning signs, and 1 of them is a bit concerning.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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