Returns On Capital At Elecnor (BME:ENO) Paint An Interesting Picture

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Elecnor (BME:ENO) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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 Elecnor:

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

0.065 = €93m ÷ (€2.9b - €1.4b) (Based on the trailing twelve months to September 2020).

Thus, Elecnor has an ROCE of 6.5%. On its own that's a low return on capital but it's in line with the industry's average returns of 6.5%.

Check out our latest analysis for Elecnor

Above you can see how the current ROCE for Elecnor compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Elecnor here for free.

So How Is Elecnor's ROCE Trending?

We're a bit concerned with the trends, because the business is applying 33% less capital than it was five years ago and returns on that capital have stayed flat. This indicates to us that assets are being sold and thus the business is likely shrinking, which you'll remember isn't the typical ingredients for an up-and-coming multi-bagger. In addition to that, since the ROCE doesn't scream "quality" at 6.5%, it's hard to get excited about these developments.

On another note, while the change in ROCE trend might not scream for attention, it's interesting that the current liabilities have actually gone up over the last five years. This is intriguing because if current liabilities hadn't increased to 50% of total assets, this reported ROCE would probably be less than6.5% because total capital employed would be higher.The 6.5% ROCE could be even lower if current liabilities weren't 50% of total assets, because the the formula would show a larger base of total capital employed. Additionally, this high level of current liabilities isn't ideal because it means the company's suppliers (or short-term creditors) are effectively funding a large portion of the business.

The Key Takeaway

It's a shame to see that Elecnor is effectively shrinking in terms of its capital base. Since the stock has gained an impressive 79% over the last five years, investors must think there's better things to come. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

On a final note, we found 3 warning signs for Elecnor (2 make us uncomfortable) 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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