What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. That's why when we briefly looked at Tai Sin Electric's (SGX:500) ROCE trend, we were pretty happy with what we saw.
What Is Return On Capital Employed (ROCE)?
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Tai Sin Electric:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.12 = S$26m ÷ (S$316m - S$100m) (Based on the trailing twelve months to June 2022).
Therefore, Tai Sin Electric has an ROCE of 12%. On its own, that's a standard return, however it's much better than the 8.2% generated by the Electrical industry.
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 Tai Sin Electric, check out these free graphs here.
So How Is Tai Sin Electric's ROCE Trending?
While the returns on capital are good, they haven't moved much. Over the past five years, ROCE has remained relatively flat at around 12% and the business has deployed 27% more capital into its operations. 12% is a pretty standard return, and it provides some comfort knowing that Tai Sin Electric has consistently earned this amount. Stable returns in this ballpark can be unexciting, but if they can be maintained over the long run, they often provide nice rewards to shareholders.
On another note, while the change in ROCE trend might not scream for attention, it's interesting that the current liabilities have actually gone up over the last five years. This is intriguing because if current liabilities hadn't increased to 32% of total assets, this reported ROCE would probably be less than12% because total capital employed would be higher.The 12% ROCE could be even lower if current liabilities weren't 32% of total assets, because the the formula would show a larger base of total capital employed. So while current liabilities isn't high right now, keep an eye out in case it increases further, because this can introduce some elements of risk.
The Key Takeaway
The main thing to remember is that Tai Sin Electric has proven its ability to continually reinvest at respectable rates of return. In light of this, the stock has only gained 26% over the last five years for shareholders who have owned the stock in this period. So because of the trends we're seeing, we'd recommend looking further into this stock to see if it has the makings of a multi-bagger.
One more thing to note, we've identified 1 warning sign with Tai Sin Electric and understanding this should be part of your investment process.
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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