Returns On Capital At Card Factory (LON:CARD) Paint A Concerning Picture

When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. 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. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. Having said that, after a brief look, Card Factory (LON:CARD) we aren't filled with optimism, but let's investigate further.

Return On Capital Employed (ROCE): What Is It?

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 Card Factory is:

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

0.12 = UK£50m ÷ (UK£539m - UK£137m) (Based on the trailing twelve months to July 2022).

Therefore, Card Factory has an ROCE of 12%. That's a relatively normal return on capital, and it's around the 13% generated by the Specialty Retail industry.

View our latest analysis for Card Factory

Above you can see how the current ROCE for Card Factory compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Card Factory.

How Are Returns Trending?

There is reason to be cautious about Card Factory, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 20% that they were earning five years ago. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. If these trends continue, we wouldn't expect Card Factory to turn into a multi-bagger.

On a side note, Card Factory's current liabilities have increased over the last five years to 25% of total assets, effectively distorting the ROCE to some degree. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.

The Key Takeaway

In summary, it's unfortunate that Card Factory is generating lower returns from the same amount of capital. Investors haven't taken kindly to these developments, since the stock has declined 53% from where it was five years ago. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

Card Factory could be trading at an attractive price in other respects, so you might find our free intrinsic value estimation on our platform quite valuable.

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.