Returns On Capital Signal Tricky Times Ahead For Delek Automotive Systems (TLV:DLEA)

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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Looking at Delek Automotive Systems (TLV:DLEA), it does have a high ROCE right now, but lets see how returns are trending.

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

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. Analysts use this formula to calculate it for Delek Automotive Systems:

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

0.26 = ₪930m ÷ (₪5.7b - ₪2.1b) (Based on the trailing twelve months to June 2022).

So, Delek Automotive Systems has an ROCE of 26%. That's a fantastic return and not only that, it outpaces the average of 10% earned by companies in a similar industry.

Our analysis indicates that DLEA is potentially undervalued!

Historical performance is a great place to start when researching a stock so above you can see the gauge for Delek Automotive Systems' ROCE against it's prior returns. If you're interested in investigating Delek Automotive Systems' past further, check out this free graph of past earnings, revenue and cash flow.

How Are Returns Trending?

When we looked at the ROCE trend at Delek Automotive Systems, we didn't gain much confidence. Historically returns on capital were even higher at 46%, but they have dropped over the last five years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, Delek Automotive Systems has decreased its current liabilities to 37% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

Our Take On Delek Automotive Systems' ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Delek Automotive Systems is reinvesting for growth and has higher sales as a result. And long term investors must be optimistic going forward because the stock has returned a huge 239% to shareholders in the last five years. So should these growth trends continue, we'd be optimistic on the stock going forward.

One final note, you should learn about the 2 warning signs we've spotted with Delek Automotive Systems (including 1 which makes us a bit uncomfortable) .

Delek Automotive Systems is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.

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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.