Sime Darby Berhad (KLSE:SIME) Is Doing The Right Things To Multiply Its Share Price

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Speaking of which, we noticed some great changes in Sime Darby Berhad's (KLSE:SIME) returns on capital, so let's have a look.

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 Sime Darby Berhad, this is the formula:

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

0.087 = RM1.7b ÷ (RM29b - RM10b) (Based on the trailing twelve months to March 2022).

Thus, Sime Darby Berhad has an ROCE of 8.7%. Ultimately, that's a low return and it under-performs the Industrials industry average of 12%.

See our latest analysis for Sime Darby Berhad

In the above chart we have measured Sime Darby Berhad's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

How Are Returns Trending?

Like most people, we're pleased that Sime Darby Berhad is now generating some pretax earnings. While the business is profitable now, it used to be incurring losses on invested capital five years ago. In regards to capital employed, Sime Darby Berhad is using 64% less capital than it was five years ago, which on the surface, can indicate that the business has become more efficient at generating these returns. This could potentially mean that the company is selling some of its assets.

On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Essentially the business now has suppliers or short-term creditors funding about 34% of its operations, which isn't ideal. Keep an eye out for future increases because when the ratio of current liabilities to total assets gets particularly high, this can introduce some new risks for the business.

The Key Takeaway

In summary, it's great to see that Sime Darby Berhad has been able to turn things around and earn higher returns on lower amounts of capital. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 42% return over the last five years. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

On a separate note, we've found 1 warning sign for Sime Darby Berhad you'll probably want to 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.

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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.