If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. Speaking of which, we noticed some great changes in Kung Sing Engineering’s (TPE:5521) returns on capital, so let’s have a look.
Understanding 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 Kung Sing Engineering, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.23 = NT$1.4b ÷ (NT$8.6b – NT$2.4b) (Based on the trailing twelve months to September 2020).
Thus, Kung Sing Engineering has an ROCE of 23%. That’s a fantastic return and not only that, it outpaces the average of 7.5% earned by companies in a similar industry.
See our latest analysis for Kung Sing Engineering
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 Kung Sing Engineering, check out these free graphs here.
What Can We Tell From Kung Sing Engineering’s ROCE Trend?
Investors would be pleased with what’s happening at Kung Sing Engineering. The data shows that returns on capital have increased substantially over the last five years to 23%. The company is effectively making more money per dollar of capital used, and it’s worth noting that the amount of capital has increased too, by 40%. This can indicate that there’s plenty of opportunities to invest capital internally and at ever higher rates, a combination that’s common among multi-baggers.
On a related note, the company’s ratio of current liabilities to total assets has decreased to 28%, which basically reduces it’s funding from the likes of short-term creditors or suppliers. So this improvement in ROCE has come from the business’ underlying economics, which is great to see.
Our Take On Kung Sing Engineering’s ROCE
A company that is growing its returns on capital and can consistently reinvest in itself is a highly sought after trait, and that’s what Kung Sing Engineering has. And given the stock has remained rather flat over the last five years, there might be an opportunity here if other metrics are strong. So researching this company further and determining whether or not these trends will continue seems justified.
On a separate note, we’ve found 1 warning sign for Kung Sing Engineering you’ll probably want to know about.
Kung Sing Engineering is not the only stock earning high returns. If you’d like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.
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