There Are Reasons To Feel Uneasy About Diagnósticos da América's (BVMF:DASA3) Returns On Capital

There are a few key trends to look for if we want to identify the next multi-bagger. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. In light of that, when we looked at Diagnósticos da América (BVMF:DASA3) and its ROCE trend, we weren't exactly thrilled.

Understanding Return On Capital Employed (ROCE)

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. Analysts use this formula to calculate it for Diagnósticos da América:

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

0.017 = R$173m ÷ (R$14b - R$3.9b) (Based on the trailing twelve months to March 2021).

Thus, Diagnósticos da América has an ROCE of 1.7%. Ultimately, that's a low return and it under-performs the Healthcare industry average of 14%.

Check out our latest analysis for Diagnósticos da América

In the above chart we have measured Diagnósticos da América's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Diagnósticos da América here for free.

What Does the ROCE Trend For Diagnósticos da América Tell Us?

On the surface, the trend of ROCE at Diagnósticos da América doesn't inspire confidence. Over the last five years, returns on capital have decreased to 1.7% from 5.1% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 28%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 1.7%. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.

What We Can Learn From Diagnósticos da América's ROCE

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Diagnósticos da América. And long term investors must be optimistic going forward because the stock has returned a huge 480% to shareholders in the last five years. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.

If you'd like to know more about Diagnósticos da América, we've spotted 3 warning signs, and 1 of them doesn't sit too well with us.

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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