Here's What's Concerning About Renault's (EPA:RNO) Returns On Capital

When we're researching a company, it's sometimes hard to find the warning signs, but there are some financial metrics that can help spot trouble early. 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. 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 glancing at the trends within Renault (EPA:RNO), we weren't too hopeful.

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. The formula for this calculation on Renault is:

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

0.051 = €2.2b ÷ (€111b - €68b) (Based on the trailing twelve months to June 2022).

Therefore, Renault has an ROCE of 5.1%. Ultimately, that's a low return and it under-performs the Auto industry average of 9.1%.

View our latest analysis for Renault

In the above chart we have measured Renault's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

The Trend Of ROCE

We are a bit worried about the trend of returns on capital at Renault. About five years ago, returns on capital were 8.5%, however they're now substantially lower than that as we saw above. Meanwhile, capital employed in the business has stayed roughly the flat over the period. 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. If these trends continue, we wouldn't expect Renault to turn into a multi-bagger.

Another thing to note, Renault has a high ratio of current liabilities to total assets of 61%. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

Our Take On Renault's ROCE

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. Investors haven't taken kindly to these developments, since the stock has declined 57% from where it was five years ago. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

One final note, you should learn about the 2 warning signs we've spotted with Renault (including 1 which is significant) .

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.