Hexagon (STO:HEXA B) Could Be Struggling To Allocate Capital

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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. In light of that, when we looked at Hexagon (STO:HEXA B) and its ROCE trend, we weren't exactly thrilled.

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 Hexagon:

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

0.099 = €1.4b ÷ (€17b - €3.1b) (Based on the trailing twelve months to September 2023).

So, Hexagon has an ROCE of 9.9%. In absolute terms, that's a low return and it also under-performs the Electronic industry average of 18%.

View our latest analysis for Hexagon

Above you can see how the current ROCE for Hexagon compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Hexagon.

How Are Returns Trending?

On the surface, the trend of ROCE at Hexagon doesn't inspire confidence. Over the last five years, returns on capital have decreased to 9.9% from 12% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

The Bottom Line On Hexagon's ROCE

Bringing it all together, while we're somewhat encouraged by Hexagon's reinvestment in its own business, we're aware that returns are shrinking. Although the market must be expecting these trends to improve because the stock has gained 87% over the last five years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

If you're still interested in Hexagon it's worth checking out our FREE intrinsic value approximation to see if it's trading at an attractive price in other respects.

While Hexagon 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.