The Returns On Capital At Light (BVMF:LIGT3) Don't Inspire Confidence

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. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. So after glancing at the trends within Light (BVMF:LIGT3), we weren't too hopeful.

Understanding 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. The formula for this calculation on Light is:

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

0.0043 = R$35m ÷ (R$23b - R$15b) (Based on the trailing twelve months to September 2023).

Thus, Light has an ROCE of 0.4%. Ultimately, that's a low return and it under-performs the Electric Utilities industry average of 12%.

See our latest analysis for Light

Above you can see how the current ROCE for Light compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Light.

How Are Returns Trending?

In terms of Light's historical ROCE trend, it isn't fantastic. The company used to generate 13% on its capital five years ago but it has since fallen noticeably. On top of that, the business is utilizing 34% less capital within its operations. The fact that both are shrinking is an indication that the business is going through some tough times. If these underlying trends continue, we wouldn't be too optimistic going forward.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 65%, which has impacted the ROCE. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. And with current liabilities at these levels, suppliers or short-term creditors are effectively funding a large part of the business, which can introduce some risks.

In Conclusion...

To see Light reducing the capital employed in the business in tandem with diminishing returns, is concerning. Investors haven't taken kindly to these developments, since the stock has declined 60% from where it was five years ago. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

On a final note, we've found 1 warning sign for Light that we think 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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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.