Be Wary Of Dignity (LON:DTY) And Its Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Although, when we looked at Dignity (LON:DTY), it didn't seem to tick all of these boxes.

Return On Capital Employed (ROCE): What is it?

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. To calculate this metric for Dignity, this is the formula:

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

0.033 = UK£57m ÷ (UK£1.9b - UK£180m) (Based on the trailing twelve months to December 2021).

Therefore, Dignity has an ROCE of 3.3%. In absolute terms, that's a low return and it also under-performs the Consumer Services industry average of 16%.

View our latest analysis for Dignity

In the above chart we have measured Dignity's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Dignity.

How Are Returns Trending?

On the surface, the trend of ROCE at Dignity doesn't inspire confidence. To be more specific, ROCE has fallen from 16% over the last five years. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

In Conclusion...

Bringing it all together, while we're somewhat encouraged by Dignity's reinvestment in its own business, we're aware that returns are shrinking. Moreover, since the stock has crumbled 76% over the last five years, it appears investors are expecting the worst. On the whole, we aren't too inspired by the underlying trends and we think there may be better chances of finding a multi-bagger elsewhere.

If you'd like to know more about Dignity, we've spotted 4 warning signs, and 2 of them make us uncomfortable.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.