Can Prime Focus (NSE:PFOCUS) Continue To Grow Its Returns On Capital?

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. So on that note, Prime Focus (NSE:PFOCUS) looks quite promising in regards to its trends of return on capital.

Return On Capital Employed (ROCE): What is it?

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. To calculate this metric for Prime Focus, this is the formula:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.015 = ₹365m ÷ (₹50b - ₹25b) (Based on the trailing twelve months to March 2020).

Therefore, Prime Focus has an ROCE of 1.5%. Ultimately, that's a low return and it under-performs the Entertainment industry average of 8.5%.

View our latest analysis for Prime Focus

Historical performance is a great place to start when researching a stock so above you can see the gauge for Prime Focus' ROCE against it's prior returns. If you'd like to look at how Prime Focus has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

How Are Returns Trending?

While in absolute terms it isn't a high ROCE, it's promising to see that it has been moving in the right direction. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 1.5%. The amount of capital employed has increased too, by 25%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. The current liabilities has increased to 50% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. And with current liabilities at those levels, that's pretty high.

The Key Takeaway

A company that is growing its returns on capital and can consistently reinvest in itself is a highly sought after trait, and that's what Prime Focus has. Astute investors may have an opportunity here because the stock has declined 44% in the last five years. That being the case, research into the company's current valuation metrics and future prospects seems fitting.

Like most companies, Prime Focus does come with some risks, and we've found 1 warning sign that you should be aware of.

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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