If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after briefly looking over the numbers, we don't think DLSI (EPA:ALDLS) has the makings of a multi-bagger going forward, but let's have a look at why that may be.
Understanding Return On Capital Employed (ROCE)
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. To calculate this metric for DLSI, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.071 = €3.7m ÷ (€102m - €50m) (Based on the trailing twelve months to June 2020).
Thus, DLSI has an ROCE of 7.1%. Ultimately, that's a low return and it under-performs the Professional Services industry average of 10%.
Check out our latest analysis for DLSI
Historical performance is a great place to start when researching a stock so above you can see the gauge for DLSI's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of DLSI, check out these free graphs here.
How Are Returns Trending?
When we looked at the ROCE trend at DLSI, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 7.1% from 26% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.
On a related note, DLSI has decreased its current liabilities to 49% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.
The Bottom Line
We're a bit apprehensive about DLSI because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Investors must expect better things on the horizon though because the stock has risen 37% in the last five years. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.
DLSI does have some risks, we noticed 3 warning signs (and 1 which can't be ignored) we think you should know about.
While DLSI 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. 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.
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About ENXTPA:ALDLS
DLSI
Engages in the provision of employment solutions in France, Switzerland, Luxembourg, and Germany.
Flawless balance sheet low.
