Pesona Metro Holdings Berhad (KLSE:PESONA) May Have Issues Allocating Its Capital

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at Pesona Metro Holdings Berhad (KLSE:PESONA), 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. Analysts use this formula to calculate it for Pesona Metro Holdings Berhad:

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

0.00012 = RM44k ÷ (RM616m - RM271m) (Based on the trailing twelve months to June 2022).

So, Pesona Metro Holdings Berhad has an ROCE of 0.01%. In absolute terms, that's a low return and it also under-performs the Construction industry average of 5.4%.

Check out the opportunities and risks within the MY Construction industry.

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 Pesona Metro Holdings Berhad, check out these free graphs here.

What Can We Tell From Pesona Metro Holdings Berhad's ROCE Trend?

When we looked at the ROCE trend at Pesona Metro Holdings Berhad, we didn't gain much confidence. Around five years ago the returns on capital were 9.0%, but since then they've fallen to 0.01%. 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 side note, Pesona Metro Holdings Berhad has done well to pay down its current liabilities to 44% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. 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.

Our Take On Pesona Metro Holdings Berhad's ROCE

In summary, we're somewhat concerned by Pesona Metro Holdings Berhad's diminishing returns on increasing amounts of capital. It should come as no surprise then that the stock has fallen 47% over the last five years, so it looks like investors are recognizing these changes. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

Pesona Metro Holdings Berhad does have some risks, we noticed 3 warning signs (and 2 which are concerning) we think you should know about.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.