Capital returns show encouraging signs at Sime Darby Berhad (KLSE: SIME)

If we are to find multi-bagger potential, there are often underlying trends that can provide clues. A common approach is to try to find a business with Return on capital employed (ROCE) which is increasing, in parallel with a amount capital employed. Basically, it means that a business has profitable initiatives that it can keep reinvesting in, which is a hallmark of a dialing machine. So when we looked Sime Darby Berhad (KLSE: SIME) and its ROCE trend, we really liked what we saw.

Return on capital employed (ROCE): what is it?

Just to clarify if you’re not sure, ROCE is a measure of the pre-tax income (as a percentage) that a business earns on the capital invested in its business. To calculate this metric for Sime Darby Berhad, here is the formula:

Return on capital employed = Earnings before interest and taxes (EBIT) ÷ (Total assets – Current liabilities)

0.089 = RM1.6b ÷ (RM29b – RM10b) (Based on the last twelve months up to March 2021).

Therefore, Sime Darby Berhad has a ROCE of 8.9%. Even though that matches the industry average of 8.9%, that’s still a low return on its own.

See our latest review for Sime Darby Berhad

In the graph above, we measured Sime Darby Berhad’s past ROCE against his past performance, but the future is arguably more important. If you like, you can check out the analysts’ forecasts covering Sime Darby Berhad here for free.

So what’s the ROCE trend of Sime Darby Berhad?

Sime Darby Berhad did not disappoint when it comes to ROCE growth. We have found that returns on capital employed over the past five years have increased by 89%. The company now earns RM 0.09 per dollar of capital employed. Interestingly, the business can become more efficient because it uses 63% less capital than it was five years ago. Sime Darby Berhad may be selling some assets, so it’s worth checking out if the company has any future investment plans to further increase returns.

For the record, there was a noticeable increase in the company’s current liabilities during the period, so we would attribute some of the ROCE growth to that. Basically, the business now has short-term suppliers or creditors funding about 36% of its operations, which is not ideal. It’s worth keeping an eye out for this, because as the percentage of current liabilities to total assets increases, some aspects of risk also increase.

In conclusion…

In summary, it’s great to see that Sime Darby Berhad has been able to turn things around and achieve higher returns on lower amounts of capital. And with a respectable 71% attributed to those who held the title over the past five years, you could argue that these developments are starting to get the attention they deserve. So, given that the stock has proven to have some promising trends, it’s worth further researching the company to see if these trends are likely to continue.

On a final note, we found 2 warning signs for Sime Darby Berhad (1 makes us a little uncomfortable) you need to be aware.

For those who like to invest in solid companies, Check it out free list of companies with strong balance sheets and high returns on equity.

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