Investors Will Want EA Holdings Berhad's (KLSE:EAH) Growth In ROCE To Persist

There are a few key trends to look for if we want to identify the next multi-bagger. 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. So on that note, EA Holdings Berhad (KLSE:EAH) looks quite promising in regards to its trends of return on capital.

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. Analysts use this formula to calculate it for EA Holdings Berhad:

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

0.017 = RM1.8m ÷ (RM123m - RM15m) (Based on the trailing twelve months to June 2023).

Therefore, EA Holdings Berhad has an ROCE of 1.7%. Ultimately, that's a low return and it under-performs the IT industry average of 27%.

Check out our latest analysis for EA 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 EA Holdings Berhad, check out these free graphs here.

What The Trend Of ROCE Can Tell Us

We're delighted to see that EA Holdings Berhad is reaping rewards from its investments and has now broken into profitability. Historically the company was generating losses but as we can see from the latest figures referenced above, they're now earning 1.7% on their capital employed. In regards to capital employed, EA Holdings Berhad is using 53% less capital than it was five years ago, which on the surface, can indicate that the business has become more efficient at generating these returns. The reduction could indicate that the company is selling some assets, and considering returns are up, they appear to be selling the right ones.

For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. Essentially the business now has suppliers or short-term creditors funding about 12% of its operations, which isn't ideal. It's worth keeping an eye on this because as the percentage of current liabilities to total assets increases, some aspects of risk also increase.

The Bottom Line On EA Holdings Berhad's ROCE

From what we've seen above, EA Holdings Berhad has managed to increase it's returns on capital all the while reducing it's capital base. Astute investors may have an opportunity here because the stock has declined 50% in the last five years. That being the case, research into the company's current valuation metrics and future prospects seems fitting.

One more thing: We've identified 2 warning signs with EA Holdings Berhad (at least 1 which is concerning) , and understanding these would certainly be useful.

While EA 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. 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.