Divgi TorqTransfer Systems (NSE:DIVGIITTS) Is Reinvesting At Lower Rates Of Return

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. In light of that, when we looked at Divgi TorqTransfer Systems (NSE:DIVGIITTS) and its ROCE trend, we weren't exactly thrilled.

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What Is Return On Capital Employed (ROCE)?

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. The formula for this calculation on Divgi TorqTransfer Systems is:

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

0.031 = ₹184m ÷ (₹6.4b - ₹510m) (Based on the trailing twelve months to December 2024).

Thus, Divgi TorqTransfer Systems has an ROCE of 3.1%. Ultimately, that's a low return and it under-performs the Auto Components industry average of 15%.

See our latest analysis for Divgi TorqTransfer Systems

In the above chart we have measured Divgi TorqTransfer Systems' prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Divgi TorqTransfer Systems .

What Can We Tell From Divgi TorqTransfer Systems' ROCE Trend?

On the surface, the trend of ROCE at Divgi TorqTransfer Systems doesn't inspire confidence. Over the last five years, returns on capital have decreased to 3.1% from 15% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. 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 side note, Divgi TorqTransfer Systems has done well to pay down its current liabilities to 7.9% 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.

Our Take On Divgi TorqTransfer Systems' ROCE

In summary, we're somewhat concerned by Divgi TorqTransfer Systems' diminishing returns on increasing amounts of capital. Investors haven't taken kindly to these developments, since the stock has declined 47% from where it was year ago. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

If you'd like to know about the risks facing Divgi TorqTransfer Systems, we've discovered 1 warning sign that you should be aware of.

While Divgi TorqTransfer Systems may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.