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There Are Reasons To Feel Uneasy About Kejuruteraanstera Berhad's (KLSE:KAB) Returns On Capital

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Although, when we looked at Kejuruteraanstera Berhad (KLSE:KAB), it didn't seem to tick all of these boxes.

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. To calculate this metric for Kejuruteraanstera Berhad, this is the formula:

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

0.054 = RM9.8m ÷ (RM257m - RM75m) (Based on the trailing twelve months to September 2022).

So, Kejuruteraanstera Berhad has an ROCE of 5.4%. On its own that's a low return on capital but it's in line with the industry's average returns of 5.4%.

Check out our latest analysis for Kejuruteraanstera Berhad

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Historical performance is a great place to start when researching a stock so above you can see the gauge for Kejuruteraanstera Berhad's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Kejuruteraanstera Berhad, check out these free graphs here.

How Are Returns Trending?

Unfortunately, the trend isn't great with ROCE falling from 26% five years ago, while capital employed has grown 333%. That being said, Kejuruteraanstera Berhad raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. It's unlikely that all of the funds raised have been put to work yet, so as a consequence Kejuruteraanstera Berhad might not have received a full period of earnings contribution from it. It's also worth noting the company's latest EBIT figure is within 10% of the previous year, so it's fair to assign the ROCE drop largely to the capital raise.

On a side note, Kejuruteraanstera Berhad has done well to pay down its current liabilities to 29% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

In Conclusion...

In summary, despite lower returns in the short term, we're encouraged to see that Kejuruteraanstera Berhad is reinvesting for growth and has higher sales as a result. And the stock has done incredibly well with a 777% return over the last five years, so long term investors are no doubt ecstatic with that result. So should these growth trends continue, we'd be optimistic on the stock going forward.

If you'd like to know more about Kejuruteraanstera Berhad, we've spotted 2 warning signs, and 1 of them is a bit unpleasant.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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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