Some Investors May Be Worried About Elspec Engineering's (TLV:ELSPC) Returns On Capital

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. 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 Elspec Engineering (TLV:ELSPC) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What is 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. To calculate this metric for Elspec Engineering, this is the formula:

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

0.054 = ₪3.7m ÷ (₪84m - ₪15m) (Based on the trailing twelve months to December 2020).

Thus, Elspec Engineering has an ROCE of 5.4%. In absolute terms, that's a low return and it also under-performs the Electrical industry average of 8.7%.

See our latest analysis for Elspec Engineering

Historical performance is a great place to start when researching a stock so above you can see the gauge for Elspec Engineering's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Elspec Engineering, check out these free graphs here.

How Are Returns Trending?

When we looked at the ROCE trend at Elspec Engineering, we didn't gain much confidence. Around five years ago the returns on capital were 17%, but since then they've fallen to 5.4%. 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.

In Conclusion...

From the above analysis, we find it rather worrisome that returns on capital and sales for Elspec Engineering have fallen, meanwhile the business is employing more capital than it was five years ago. And long term shareholders have watched their investments stay flat over the last five years. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

Like most companies, Elspec Engineering does come with some risks, and we've found 3 warning signs that you should be aware of.

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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