When researching a stock for investment, what can tell us that the company is in decline? When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that's often how a mature business shows signs of aging. Basically the company is earning less on its investments and it is also reducing its total assets. On that note, looking into Highway Holdings (NASDAQ:HIHO), we weren't too upbeat about how things were going.
Return On Capital Employed (ROCE): What is it?
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Highway Holdings is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.0067 = US$74k ÷ (US$15m - US$4.2m) (Based on the trailing twelve months to December 2021).
So, Highway Holdings has an ROCE of 0.7%. Ultimately, that's a low return and it under-performs the Machinery industry average of 10%.
Historical performance is a great place to start when researching a stock so above you can see the gauge for Highway Holdings' ROCE against it's prior returns. If you're interested in investigating Highway Holdings' past further, check out this free graph of past earnings, revenue and cash flow.
How Are Returns Trending?
In terms of Highway Holdings' historical ROCE movements, the trend doesn't inspire confidence. About five years ago, returns on capital were 6.6%, however they're now substantially lower than that as we saw above. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Highway Holdings becoming one if things continue as they have.
What We Can Learn From Highway Holdings' ROCE
All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. It should come as no surprise then that the stock has fallen 15% over the last five years, so it looks like investors are recognizing these changes. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.
One more thing: We've identified 5 warning signs with Highway Holdings (at least 1 which is a bit unpleasant) , and understanding them 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.
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.