Adcorp Holdings (JSE:ADR) Will Be Hoping To Turn Its Returns On Capital Around
When researching a stock for investment, what can tell us that the company is in decline? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. Having said that, after a brief look, Adcorp Holdings (JSE:ADR) we aren't filled with optimism, but let's investigate further.
What Is Return On Capital Employed (ROCE)?
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for Adcorp Holdings:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.11 = R189m ÷ (R3.0b - R1.2b) (Based on the trailing twelve months to August 2023).
Therefore, Adcorp Holdings has an ROCE of 11%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Professional Services industry average of 13%.
See our latest analysis for Adcorp Holdings
Above you can see how the current ROCE for Adcorp Holdings 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 analyst report for Adcorp Holdings .
What Can We Tell From Adcorp Holdings' ROCE Trend?
We are a bit anxious about the trends of ROCE at Adcorp Holdings. Unfortunately, returns have declined substantially over the last five years to the 11% we see today. What's equally concerning is that the amount of capital deployed in the business has shrunk by 37% over that same period. The combination of lower ROCE and less capital employed can indicate that a business is likely to be facing some competitive headwinds or seeing an erosion to its moat. Typically businesses that exhibit these characteristics aren't the ones that tend to multiply over the long term, because statistically speaking, they've already gone through the growth phase of their life cycle.
Another thing to note, Adcorp Holdings has a high ratio of current liabilities to total assets of 40%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
What We Can Learn From Adcorp Holdings' ROCE
In short, lower returns and decreasing amounts capital employed in the business doesn't fill us with confidence. We expect this has contributed to the stock plummeting 71% during the last five years. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.
One more thing: We've identified 4 warning signs with Adcorp Holdings (at least 1 which makes us a bit uncomfortable) , and understanding them would certainly be useful.
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.
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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.
