These Return Metrics Don't Make Endesa (BME:ELE) Look Too Strong

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? 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. 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. So after we looked into Endesa (BME:ELE), the trends above didn't look too great.

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 Endesa is:

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

0.062 = €1.7b ÷ (€41b - €15b) (Based on the trailing twelve months to December 2023).

So, Endesa has an ROCE of 6.2%. In absolute terms, that's a low return but it's around the Electric Utilities industry average of 7.0%.

View our latest analysis for Endesa

Above you can see how the current ROCE for Endesa 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 Endesa for free.

So How Is Endesa's ROCE Trending?

There is reason to be cautious about Endesa, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 7.8% that they were earning five years ago. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. 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 Endesa becoming one if things continue as they have.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 35%, which has impacted the ROCE. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. Keep an eye on this ratio, because the business could encounter some new risks if this metric gets too high.

In Conclusion...

In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. Despite the concerning underlying trends, the stock has actually gained 3.0% over the last five years, so it might be that the investors are expecting the trends to reverse. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.

If you'd like to know about the risks facing Endesa, we've discovered 4 warning signs that you should be aware of.

While Endesa may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.