Muhibbah Engineering (M) Bhd's (KLSE:MUHIBAH) Returns On Capital Not Reflecting Well On The Business

If you're looking for a multi-bagger, there's a few things to keep an eye out for. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. However, after briefly looking over the numbers, we don't think Muhibbah Engineering (M) Bhd (KLSE:MUHIBAH) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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 Muhibbah Engineering (M) Bhd, this is the formula:

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

0.011 = RM20m ÷ (RM3.4b - RM1.6b) (Based on the trailing twelve months to September 2021).

Thus, Muhibbah Engineering (M) Bhd has an ROCE of 1.1%. Ultimately, that's a low return and it under-performs the Construction industry average of 5.7%.

Check out our latest analysis for Muhibbah Engineering (M) Bhd

Above you can see how the current ROCE for Muhibbah Engineering (M) Bhd compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Muhibbah Engineering (M) Bhd.

The Trend Of ROCE

On the surface, the trend of ROCE at Muhibbah Engineering (M) Bhd doesn't inspire confidence. Over the last five years, returns on capital have decreased to 1.1% from 7.0% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a side note, Muhibbah Engineering (M) Bhd has done well to pay down its current liabilities to 45% 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. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

The Key Takeaway

In summary, we're somewhat concerned by Muhibbah Engineering (M) Bhd's diminishing returns on increasing amounts of capital. Unsurprisingly then, the stock has dived 71% over the last five years, so investors are recognizing these changes and don't like the company's prospects. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

Like most companies, Muhibbah Engineering (M) Bhd does come with some risks, and we've found 2 warning signs that you should be aware of.

While Muhibbah Engineering (M) Bhd isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.