Some Investors May Be Worried About Sona BLW Precision Forgings' (NSE:SONACOMS) Returns On Capital

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. Having said that, while the ROCE is currently high for Sona BLW Precision Forgings (NSE:SONACOMS), we aren't jumping out of our chairs because returns are decreasing.

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 Sona BLW Precision Forgings:

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

0.21 = ₹6.0b ÷ (₹35b - ₹7.1b) (Based on the trailing twelve months to September 2023).

So, Sona BLW Precision Forgings has an ROCE of 21%. In absolute terms that's a great return and it's even better than the Auto Components industry average of 14%.

Check out our latest analysis for Sona BLW Precision Forgings

Above you can see how the current ROCE for Sona BLW Precision Forgings compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

The Trend Of ROCE

In terms of Sona BLW Precision Forgings' historical ROCE movements, the trend isn't fantastic. To be more specific, while the ROCE is still high, it's fallen from 27% where it was five years ago. 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, Sona BLW Precision Forgings has decreased its current liabilities to 20% of total assets. So we could link some of this to the decrease in ROCE. 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.

The Bottom Line

While returns have fallen for Sona BLW Precision Forgings in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And the stock has followed suit returning a meaningful 17% to shareholders over the last year. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

If you want to continue researching Sona BLW Precision Forgings, you might be interested to know about the 1 warning sign that our analysis has discovered.

If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning high returns on equity.

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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.