Our Take On The Returns On Capital At Cub Elecparts (TPE:2231)

There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. Although, when we looked at Cub Elecparts (TPE:2231), it didn't seem to tick all of these boxes.

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. To calculate this metric for Cub Elecparts, this is the formula:

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

0.078 = NT$359m ÷ (NT$8.2b - NT$3.5b) (Based on the trailing twelve months to September 2020).

Thus, Cub Elecparts has an ROCE of 7.8%. On its own that's a low return, but compared to the average of 4.7% generated by the Auto Components industry, it's much better.

Check out our latest analysis for Cub Elecparts

In the above chart we have measured Cub Elecparts' prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Cub Elecparts here for free.

The Trend Of ROCE

In terms of Cub Elecparts' historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 51%, but since then they've fallen to 7.8%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 43%, which has impacted the ROCE. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. What this means is that in reality, a rather large portion of the business is being funded by the likes of the company's suppliers or short-term creditors, which can bring some risks of its own.

The Key Takeaway

From the above analysis, we find it rather worrisome that returns on capital and sales for Cub Elecparts have fallen, meanwhile the business is employing more capital than it was five years ago. And, the stock has remained flat over the last five years, so investors don't seem too impressed either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

One more thing to note, we've identified 3 warning signs with Cub Elecparts and understanding these should be part of your investment process.

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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