If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. Although, when we looked at Hextar Industries Berhad (KLSE:HEXIND), it didn't seem to tick all of these boxes.
What is Return On Capital Employed (ROCE)?
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Hextar Industries Berhad, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.057 = RM7.7m ÷ (RM182m - RM47m) (Based on the trailing twelve months to November 2020).
Therefore, Hextar Industries Berhad has an ROCE of 5.7%. On its own that's a low return on capital but it's in line with the industry's average returns of 6.4%.
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 want to delve into the historical earnings, revenue and cash flow of Hextar Industries Berhad, check out these free graphs here.
What Can We Tell From Hextar Industries Berhad's ROCE Trend?
On the surface, the trend of ROCE at Hextar Industries Berhad doesn't inspire confidence. Over the last five years, returns on capital have decreased to 5.7% from 7.5% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.
On a side note, Hextar Industries Berhad's current liabilities have increased over the last five years to 26% 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. Keep an eye on this ratio, because the business could encounter some new risks if this metric gets too high.
The Key Takeaway
Bringing it all together, while we're somewhat encouraged by Hextar Industries Berhad's reinvestment in its own business, we're aware that returns are shrinking. And in the last five years, the stock has given away 59% so the market doesn't look too hopeful on these trends strengthening any time soon. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.
One final note, you should learn about the 4 warning signs we've spotted with Hextar Industries Berhad (including 2 which are potentially serious) .
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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