To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. A business that's potentially in decline often shows two trends, a return on capital employed (ROCE) that's declining, and a base of capital employed that's also declining. This indicates the company is producing less profit from its investments and its total assets are decreasing. So after glancing at the trends within Enerflex (TSE:EFX), we weren't too hopeful.
Return On Capital Employed (ROCE): What is it?
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for Enerflex:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.041 = CA$76m ÷ (CA$2.1b - CA$218m) (Based on the trailing twelve months to June 2021).
So, Enerflex has an ROCE of 4.1%. In absolute terms, that's a low return, but it's much better than the Energy Services industry average of 2.6%.
In the above chart we have measured Enerflex's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Enerflex.
So How Is Enerflex's ROCE Trending?
We are a bit worried about the trend of returns on capital at Enerflex. Unfortunately the returns on capital have diminished from the 5.3% that they were earning five years ago. 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. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Enerflex becoming one if things continue as they have.
What We Can Learn From Enerflex's ROCE
In summary, it's unfortunate that Enerflex is generating lower returns from the same amount of capital. Long term shareholders who've owned the stock over the last five years have experienced a 31% depreciation in their investment, so it appears the market might not like these trends either. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.
If you'd like to know about the risks facing Enerflex, we've discovered 1 warning sign that 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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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.
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