Capital Allocation Trends At ZF Commercial Vehicle Control Systems India (NSE:ZFCVINDIA) Aren't Ideal

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. 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 ZF Commercial Vehicle Control Systems India (NSE:ZFCVINDIA) and its ROCE trend, we weren't exactly thrilled.

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

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for ZF Commercial Vehicle Control Systems India, this is the formula:

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

0.15 = ₹3.7b ÷ (₹30b - ₹5.4b) (Based on the trailing twelve months to March 2023).

Therefore, ZF Commercial Vehicle Control Systems India has an ROCE of 15%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Auto Components industry average of 14%.

See our latest analysis for ZF Commercial Vehicle Control Systems India

Above you can see how the current ROCE for ZF Commercial Vehicle Control Systems India compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering ZF Commercial Vehicle Control Systems India here for free.

How Are Returns Trending?

When we looked at the ROCE trend at ZF Commercial Vehicle Control Systems India, we didn't gain much confidence. Around five years ago the returns on capital were 22%, but since then they've fallen to 15%. 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a related note, ZF Commercial Vehicle Control Systems India has decreased its current liabilities to 18% of total assets. That could partly explain why the ROCE has dropped. 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 ZF Commercial Vehicle Control Systems India's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that ZF Commercial Vehicle Control Systems India is reinvesting for growth and has higher sales as a result. And the stock has followed suit returning a meaningful 50% to shareholders over the last five years. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

If you're still interested in ZF Commercial Vehicle Control Systems India it's worth checking out our FREE intrinsic value approximation to see if it's trading at an attractive price in other respects.

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. 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.