The Returns At MGB Berhad (KLSE:MGB) Provide Us With Signs Of What's To Come

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Although, when we looked at MGB Berhad (KLSE:MGB), it didn't seem to tick all of these boxes.

What is Return On Capital Employed (ROCE)?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on MGB Berhad is:

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

0.045 = RM23m ÷ (RM901m - RM381m) (Based on the trailing twelve months to September 2020).

Thus, MGB Berhad has an ROCE of 4.5%. In absolute terms, that's a low return but it's around the Construction industry average of 5.0%.

Check out our latest analysis for MGB Berhad

In the above chart we have measured MGB Berhad's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering MGB Berhad here for free.

What Does the ROCE Trend For MGB Berhad Tell Us?

On the surface, the trend of ROCE at MGB Berhad doesn't inspire confidence. Over the last five years, returns on capital have decreased to 4.5% from 36% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

On a related note, MGB Berhad has decreased its current liabilities to 42% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money. Keep in mind 42% is still pretty high, so those risks are still somewhat prevalent.

The Bottom Line On MGB Berhad's ROCE

We're a bit apprehensive about MGB Berhad because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Long term shareholders who've owned the stock over the last three years have experienced a 66% depreciation in their investment, so it appears the market might not like these trends either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

On a separate note, we've found 2 warning signs for MGB Berhad you'll probably want to know about.

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This article by Simply Wall St is general in nature. 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.
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