What are the early trends we should look for to identify a stock that could multiply in value over the long term? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. In light of that, when we looked at Epwin Group (LON:EPWN) and its ROCE trend, we weren't exactly thrilled.
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 Epwin Group:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.028 = UK£5.9m ÷ (UK£286m - UK£72m) (Based on the trailing twelve months to June 2020).
So, Epwin Group has an ROCE of 2.8%. Ultimately, that's a low return and it under-performs the Building industry average of 6.5%.
Above you can see how the current ROCE for Epwin Group compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Epwin Group.
What Does the ROCE Trend For Epwin Group Tell Us?
In terms of Epwin Group's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 32%, but since then they've fallen to 2.8%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.
On a related note, Epwin Group has decreased its current liabilities to 25% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.
We're a bit apprehensive about Epwin Group because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Investors haven't taken kindly to these developments, since the stock has declined 35% from where it was five years ago. Unless these trends revert to a more positive trajectory, we would look elsewhere.
Epwin Group does have some risks, we noticed 2 warning signs (and 1 which shouldn't be ignored) we think you should know about.
While Epwin Group may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
This article by Simply Wall St is general in nature. 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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