Should We Be Excited About The Trends Of Returns At Ambika Cotton Mills (NSE:AMBIKCO)?

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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, from a first glance at Ambika Cotton Mills (NSE:AMBIKCO) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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 Ambika Cotton Mills:

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

0.14 = ₹777m ÷ (₹6.3b - ₹901m) (Based on the trailing twelve months to March 2020).

Thus, Ambika Cotton Mills has an ROCE of 14%. In absolute terms, that's a satisfactory return, but compared to the Luxury industry average of 10% it's much better.

See our latest analysis for Ambika Cotton Mills

Historical performance is a great place to start when researching a stock so above you can see the gauge for Ambika Cotton Mills' ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Ambika Cotton Mills, check out these free graphs here.

What Does the ROCE Trend For Ambika Cotton Mills Tell Us?

When we looked at the ROCE trend at Ambika Cotton Mills, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 14% from 20% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

In Conclusion...

Bringing it all together, while we're somewhat encouraged by Ambika Cotton Mills' reinvestment in its own business, we're aware that returns are shrinking. Since the stock has declined 30% over the last five years, investors may not be too optimistic on this trend improving either. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for Ambika Cotton Mills (of which 1 can't be ignored!) that you should know about.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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