Leform Berhad (KLSE:LEFORM) Could Be Struggling To Allocate Capital

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Leform Berhad (KLSE:LEFORM) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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 Leform Berhad is:

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

0.013 = RM3.0m ÷ (RM450m - RM217m) (Based on the trailing twelve months to September 2024).

So, Leform Berhad has an ROCE of 1.3%. In absolute terms, that's a low return and it also under-performs the Metals and Mining industry average of 6.2%.

Check out our latest analysis for Leform Berhad

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

What Does the ROCE Trend For Leform Berhad Tell Us?

In terms of Leform Berhad's historical ROCE movements, the trend isn't fantastic. Over the last four years, returns on capital have decreased to 1.3% from 9.0% four years ago. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, Leform Berhad's current liabilities are still rather high at 48% of total assets. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Key Takeaway

In summary, despite lower returns in the short term, we're encouraged to see that Leform Berhad is reinvesting for growth and has higher sales as a result. However, despite the promising trends, the stock has fallen 62% over the last year, so there might be an opportunity here for astute investors. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

One more thing: We've identified 3 warning signs with Leform Berhad (at least 2 which make us uncomfortable) , and understanding these would certainly be useful.

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.