Returns On Capital Signal Difficult Times Ahead For ifa systems (ETR:IS8)

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that's often how a mature business shows signs of aging. This combination can tell you that not only is the company investing less, it's earning less on what it does invest. Having said that, after a brief look, ifa systems (ETR:IS8) we aren't filled with optimism, but let's investigate further.

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. Analysts use this formula to calculate it for ifa systems:

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

0.018 = €224k ÷ (€17m - €4.7m) (Based on the trailing twelve months to June 2021).

So, ifa systems has an ROCE of 1.8%. Ultimately, that's a low return and it under-performs the Healthcare Services industry average of 9.9%.

View our latest analysis for ifa systems

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

So How Is ifa systems' ROCE Trending?

In terms of ifa systems' historical ROCE trend, it isn't fantastic. Unfortunately, returns have declined substantially over the last five years to the 1.8% we see today. On top of that, the business is utilizing 52% less capital within its operations. The combination of lower ROCE and less capital employed can indicate that a business is likely to be facing some competitive headwinds or seeing an erosion to its moat. Typically businesses that exhibit these characteristics aren't the ones that tend to multiply over the long term, because statistically speaking, they've already gone through the growth phase of their life cycle.

On a side note, ifa systems' current liabilities have increased over the last five years to 28% of total assets, effectively distorting the ROCE to some degree. Without this increase, it's likely that ROCE would be even lower than 1.8%. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.

In Conclusion...

In summary, it's unfortunate that ifa systems is shrinking its capital base and also generating lower returns. Long term shareholders who've owned the stock over the last five years have experienced a 55% depreciation in their investment, so it appears the market might not like these trends either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

One more thing: We've identified 3 warning signs with ifa systems (at least 2 which are a bit unpleasant) , and understanding them would certainly be useful.

While ifa systems 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.