XL Holdings Berhad (KLSE:XL) Shareholders Will Want The ROCE Trajectory To Continue

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. 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. So on that note, XL Holdings Berhad (KLSE:XL) looks quite promising in regards to its trends of return on capital.

What Is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for XL Holdings Berhad:

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

0.016 = RM2.0m ÷ (RM159m - RM28m) (Based on the trailing twelve months to October 2022).

So, XL Holdings Berhad has an ROCE of 1.6%. In absolute terms, that's a low return and it also under-performs the Food industry average of 11%.

See our latest analysis for XL Holdings 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 want to delve into the historical earnings, revenue and cash flow of XL Holdings Berhad, check out these free graphs here.

How Are Returns Trending?

The fact that XL Holdings Berhad is now generating some pre-tax profits from its prior investments is very encouraging. The company was generating losses five years ago, but now it's earning 1.6% which is a sight for sore eyes. And unsurprisingly, like most companies trying to break into the black, XL Holdings Berhad is utilizing 176% more capital than it was five years ago. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.

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 18% 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

Long story short, we're delighted to see that XL Holdings Berhad's reinvestment activities have paid off and the company is now profitable. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 61% return over the last five years. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.

XL Holdings Berhad does have some risks, we noticed 2 warning signs (and 1 which makes us a bit uncomfortable) we think you should know about.

While XL Holdings 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.

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.