Returns On Capital Signal Difficult Times Ahead For Khong Guan (SGX:K03)

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. This reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. So after glancing at the trends within Khong Guan (SGX:K03), we weren't too hopeful.

Understanding 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. The formula for this calculation on Khong Guan is:

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

0.016 = S$991k ÷ (S$71m - S$10.0m) (Based on the trailing twelve months to July 2022).

Thus, Khong Guan has an ROCE of 1.6%. In absolute terms, that's a low return and it also under-performs the Consumer Retailing industry average of 6.7%.

See our latest analysis for Khong Guan

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're interested in investigating Khong Guan's past further, check out this free graph of past earnings, revenue and cash flow.

What Can We Tell From Khong Guan's ROCE Trend?

In terms of Khong Guan's historical ROCE movements, the trend doesn't inspire confidence. To be more specific, the ROCE was 9.1% five years ago, but since then it has dropped noticeably. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. If these trends continue, we wouldn't expect Khong Guan to turn into a multi-bagger.

Our Take On Khong Guan's ROCE

In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. Long term shareholders who've owned the stock over the last five years have experienced a 36% depreciation in their investment, so it appears the market might not like these trends either. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

Khong Guan does come with some risks though, we found 3 warning signs in our investment analysis, and 2 of those don't sit too well with us...

While Khong Guan isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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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