There Are Reasons To Feel Uneasy About Companhia Energética do Rio Grande do Norte - COSERN's (BVMF:CSRN3) Returns On Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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 Companhia Energética do Rio Grande do Norte - COSERN (BVMF:CSRN3) and its ROCE trend, we weren't exactly thrilled.

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

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Companhia Energética do Rio Grande do Norte - COSERN:

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

0.12 = R$499m ÷ (R$4.8b - R$601m) (Based on the trailing twelve months to March 2021).

So, Companhia Energética do Rio Grande do Norte - COSERN has an ROCE of 12%. That's a relatively normal return on capital, and it's around the 11% generated by the Electric Utilities industry.

View our latest analysis for Companhia Energética do Rio Grande do Norte - COSERN

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how Companhia Energética do Rio Grande do Norte - COSERN has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at Companhia Energética do Rio Grande do Norte - COSERN doesn't inspire confidence. Around five years ago the returns on capital were 17%, but since then they've fallen to 12%. 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.

On a side note, Companhia Energética do Rio Grande do Norte - COSERN has done well to pay down its current liabilities to 12% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Key Takeaway

In summary, despite lower returns in the short term, we're encouraged to see that Companhia Energética do Rio Grande do Norte - COSERN is reinvesting for growth and has higher sales as a result. And the stock has done incredibly well with a 122% return over the last five years, so long term investors are no doubt ecstatic with that result. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

On a final note, we've found 3 warning signs for Companhia Energética do Rio Grande do Norte - COSERN that we think you should be aware of.

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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