Be Wary Of LGMS Berhad (KLSE:LGMS) And Its Returns On Capital

There are a few key trends to look for if we want to identify the next multi-bagger. 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 LGMS Berhad (KLSE:LGMS) and its ROCE trend, we weren't exactly thrilled.

Return On Capital Employed (ROCE): What Is It?

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 LGMS Berhad is:

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

0.17 = RM15m ÷ (RM98m - RM8.4m) (Based on the trailing twelve months to March 2024).

Therefore, LGMS Berhad has an ROCE of 17%. That's a relatively normal return on capital, and it's around the 16% generated by the IT industry.

Check out our latest analysis for LGMS Berhad

Above you can see how the current ROCE for LGMS Berhad compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for LGMS Berhad .

The Trend Of ROCE

When we looked at the ROCE trend at LGMS Berhad, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 17% from 45% five years ago. 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.

The Bottom Line On LGMS Berhad's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that LGMS Berhad is reinvesting for growth and has higher sales as a result. And the stock has followed suit returning a meaningful 55% to shareholders over the last year. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

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

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.

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