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When we're researching a company, it's sometimes hard to find the warning signs, but there are some financial metrics that can help spot trouble early. Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount of capital employed. This combination can tell you that not only is the company investing less, it's earning less on what it does invest. So after we looked into Quickstep Holdings (ASX:QHL), the trends above didn't look too great.
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. Analysts use this formula to calculate it for Quickstep Holdings:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.032 = AU$957k ÷ (AU$74m - AU$44m) (Based on the trailing twelve months to June 2024).
Thus, Quickstep Holdings has an ROCE of 3.2%. Ultimately, that's a low return and it under-performs the Aerospace & Defense industry average of 9.4%.
View our latest analysis for Quickstep Holdings
Historical performance is a great place to start when researching a stock so above you can see the gauge for Quickstep Holdings' ROCE against it's prior returns. If you want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Quickstep Holdings.
So How Is Quickstep Holdings' ROCE Trending?
There is reason to be cautious about Quickstep Holdings, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 14% that they were earning five years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. If these trends continue, we wouldn't expect Quickstep Holdings to turn into a multi-bagger.
While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 60%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 3.2%. What this means is that in reality, a rather large portion of the business is being funded by the likes of the company's suppliers or short-term creditors, which can bring some risks of its own.