Capital Allocation Trends At DPI Holdings Berhad (KLSE:DPIH) Aren't Ideal

To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. In light of that, when we looked at DPI Holdings Berhad (KLSE:DPIH) 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. Analysts use this formula to calculate it for DPI Holdings Berhad:

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

0.15 = RM12m ÷ (RM89m - RM8.7m) (Based on the trailing twelve months to February 2021).

Thus, DPI Holdings Berhad has an ROCE of 15%. On its own, that's a standard return, however it's much better than the 7.2% generated by the Chemicals industry.

View our latest analysis for DPI Holdings Berhad

Historical performance is a great place to start when researching a stock so above you can see the gauge for DPI Holdings Berhad's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of DPI Holdings Berhad, check out these free graphs here.

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

On the surface, the trend of ROCE at DPI Holdings Berhad doesn't inspire confidence. Around four years ago the returns on capital were 44%, but since then they've fallen to 15%. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, DPI Holdings Berhad has done well to pay down its current liabilities to 9.8% of total assets. So we could link some of this to the decrease in ROCE. 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.

What We Can Learn From DPI Holdings Berhad's ROCE

While returns have fallen for DPI Holdings Berhad in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And the stock has done incredibly well with a 349% return over the last year, so long term investors are no doubt ecstatic with that result. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.

DPI Holdings Berhad does come with some risks though, we found 3 warning signs in our investment analysis, and 1 of those can't be ignored...

While DPI 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.

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This article by Simply Wall St is general in nature. 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.
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