Telesat (TSE:TSAT) May Have Issues Allocating Its Capital

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. Having said that, after a brief look, Telesat (TSE:TSAT) we aren't filled with optimism, but let's investigate further.

What Is 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. The formula for this calculation on Telesat is:

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

0.061 = CA$389m ÷ (CA$6.5b - CA$201m) (Based on the trailing twelve months to September 2022).

So, Telesat has an ROCE of 6.1%. Ultimately, that's a low return and it under-performs the Telecom industry average of 8.1%.

Check out the opportunities and risks within the CA Telecom industry.

Historical performance is a great place to start when researching a stock so above you can see the gauge for Telesat's ROCE against it's prior returns. If you're interested in investigating Telesat's past further, check out this free graph of past earnings, revenue and cash flow.

What Can We Tell From Telesat's ROCE Trend?

In terms of Telesat's historical ROCE movements, the trend doesn't inspire confidence. About five years ago, returns on capital were 8.6%, 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. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. If these trends continue, we wouldn't expect Telesat to turn into a multi-bagger.

The Key Takeaway

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. This could explain why the stock has sunk a total of 75% in the last year. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 5 warning signs for Telesat (of which 2 are concerning!) that you should know about.

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.