Prada (HKG:1913) Will Be Hoping To Turn Its Returns On Capital Around

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. Although, when we looked at Prada (HKG:1913), it didn't seem to tick all of these boxes.

What is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Prada:

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

0.026 = €136m ÷ (€6.5b - €1.2b) (Based on the trailing twelve months to December 2020).

Thus, Prada has an ROCE of 2.6%. Ultimately, that's a low return and it under-performs the Luxury industry average of 7.2%.

Check out our latest analysis for Prada

Above you can see how the current ROCE for Prada 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 Prada here for free.

What Can We Tell From Prada's ROCE Trend?

When we looked at the ROCE trend at Prada, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 2.6% from 13% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

What We Can Learn From Prada's ROCE

We're a bit apprehensive about Prada because despite more capital being deployed in the business, returns on that capital and sales have both fallen. The market must be rosy on the stock's future because even though the underlying trends aren't too encouraging, the stock has soared 111%. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

While Prada doesn't shine too bright in this respect, it's still worth seeing if the company is trading at attractive prices. You can find that out with our FREE intrinsic value estimation on our platform.

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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