What Do The Returns On Capital At GFM Services Berhad (KLSE:GFM) Tell Us?

There are a few key trends to look for if we want to identify the next multi-bagger. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. In light of that, when we looked at GFM Services Berhad (KLSE:GFM) and its ROCE trend, we weren't exactly thrilled.

What is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on GFM Services Berhad is:

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

0.075 = RM35m ÷ (RM520m - RM48m) (Based on the trailing twelve months to September 2020).

Therefore, GFM Services Berhad has an ROCE of 7.5%. On its own that's a low return, but compared to the average of 5.2% generated by the Commercial Services industry, it's much better.

See our latest analysis for GFM Services Berhad

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're interested in investigating GFM Services Berhad's past further, check out this free graph of past earnings, revenue and cash flow.

The Trend Of ROCE

On the surface, the trend of ROCE at GFM Services Berhad doesn't inspire confidence. To be more specific, ROCE has fallen from 22% over the last five years. Given the business is employing more capital while revenue has slipped, this is a bit concerning. 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, GFM Services Berhad has done well to pay down its current liabilities to 9.3% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line

In summary, we're somewhat concerned by GFM Services Berhad's diminishing returns on increasing amounts of capital. Investors haven't taken kindly to these developments, since the stock has declined 69% from where it was three years ago. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 5 warning signs for GFM Services Berhad (of which 2 don't sit too well with us!) that you should know about.

While GFM Services Berhad 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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