Returns On Capital Signal Tricky Times Ahead For Alicon Castalloy (NSE:ALICON)

There are a few key trends to look for if we want to identify the next multi-bagger. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. However, after investigating Alicon Castalloy (NSE:ALICON), we don't think it's current trends fit the mold of a multi-bagger.

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

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 Alicon Castalloy:

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

0.074 = ₹372m ÷ (₹9.1b - ₹4.0b) (Based on the trailing twelve months to March 2021).

Thus, Alicon Castalloy has an ROCE of 7.4%. On its own, that's a low figure but it's around the 9.2% average generated by the Auto Components industry.

See our latest analysis for Alicon Castalloy

Historical performance is a great place to start when researching a stock so above you can see the gauge for Alicon Castalloy's ROCE against it's prior returns. If you'd like to look at how Alicon Castalloy has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

How Are Returns Trending?

In terms of Alicon Castalloy's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 25% over the last five years. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

On a related note, Alicon Castalloy has decreased its current liabilities to 44% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

What We Can Learn From Alicon Castalloy's ROCE

We're a bit apprehensive about Alicon Castalloy because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Yet despite these concerning fundamentals, the stock has performed strongly with a 89% return over the last five years, so investors appear very optimistic. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

If you'd like to know more about Alicon Castalloy, we've spotted 3 warning signs, and 2 of them shouldn't be ignored.

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. 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.
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