Returns On Capital Signal Tricky Times Ahead For Ucal Fuel Systems (NSE:UCALFUEL)

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. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Although, when we looked at Ucal Fuel Systems (NSE:UCALFUEL), it didn't seem to tick all of these boxes.

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. Analysts use this formula to calculate it for Ucal Fuel Systems:

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

0.04 = ₹168m ÷ (₹7.9b - ₹3.7b) (Based on the trailing twelve months to December 2020).

Therefore, Ucal Fuel Systems has an ROCE of 4.0%. Ultimately, that's a low return and it under-performs the Auto Components industry average of 8.9%.

Check out our latest analysis for Ucal Fuel Systems

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Ucal Fuel Systems' past further, check out this free graph of past earnings, revenue and cash flow.

So How Is Ucal Fuel Systems' ROCE Trending?

On the surface, the trend of ROCE at Ucal Fuel Systems doesn't inspire confidence. Over the last five years, returns on capital have decreased to 4.0% from 34% five years ago. 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, Ucal Fuel Systems has decreased its current liabilities to 47% 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. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

The Bottom Line

From the above analysis, we find it rather worrisome that returns on capital and sales for Ucal Fuel Systems have fallen, meanwhile the business is employing more capital than it was five years ago. Yet despite these concerning fundamentals, the stock has performed strongly with a 61% 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 Ucal Fuel Systems, we've spotted 4 warning signs, and 2 of them are significant.

While Ucal Fuel Systems isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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