Investors Could Be Concerned With Cielo's (BVMF:CIEL3) Returns On Capital

When researching a stock for investment, what can tell us that the company is in decline? Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount of capital employed. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. And from a first read, things don't look too good at Cielo (BVMF:CIEL3), so let's see why.

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. Analysts use this formula to calculate it for Cielo:

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

0.087 = R$2.3b ÷ (R$105b - R$78b) (Based on the trailing twelve months to June 2022).

Therefore, Cielo has an ROCE of 8.7%. Ultimately, that's a low return and it under-performs the IT industry average of 17%.

Check out our latest analysis for Cielo

In the above chart we have measured Cielo's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

So How Is Cielo's ROCE Trending?

There is reason to be cautious about Cielo, given the returns are trending downwards. About five years ago, returns on capital were 20%, however they're now substantially lower than that as we saw above. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. If these trends continue, we wouldn't expect Cielo to turn into a multi-bagger.

Another thing to note, Cielo has a high ratio of current liabilities to total assets of 75%. 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. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

In Conclusion...

In summary, it's unfortunate that Cielo is generating lower returns from the same amount of capital. Investors haven't taken kindly to these developments, since the stock has declined 69% from where it was five years ago. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

One final note, you should learn about the 2 warning signs we've spotted with Cielo (including 1 which is a bit concerning) .

While Cielo isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.