The Returns On Capital At Zecon Berhad (KLSE:ZECON) Don't Inspire Confidence

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. 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after briefly looking over the numbers, we don't think Zecon Berhad (KLSE:ZECON) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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 Zecon Berhad is:

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

0.14 = RM72m ÷ (RM1.6b - RM1.1b) (Based on the trailing twelve months to March 2022).

So, Zecon Berhad has an ROCE of 14%. On its own, that's a standard return, however it's much better than the 5.4% generated by the Construction industry.

See our latest analysis for Zecon Berhad

Historical performance is a great place to start when researching a stock so above you can see the gauge for Zecon Berhad's ROCE against it's prior returns. If you'd like to look at how Zecon Berhad has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Zecon Berhad Tell Us?

In terms of Zecon Berhad's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 36%, but since then they've fallen to 14%. 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, Zecon Berhad's current liabilities have increased over the last five years to 68% 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. And with current liabilities at these levels, suppliers or short-term creditors are effectively funding a large part of the business, which can introduce some risks.

In Conclusion...

Bringing it all together, while we're somewhat encouraged by Zecon Berhad's reinvestment in its own business, we're aware that returns are shrinking. And investors appear hesitant that the trends will pick up because the stock has fallen 41% in the last five years. On the whole, we aren't too inspired by the underlying trends and we think there may be better chances of finding a multi-bagger elsewhere.

Zecon Berhad does come with some risks though, we found 4 warning signs in our investment analysis, and 2 of those are a bit concerning...

While Zecon Berhad may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.