Returns On Capital At Ahluwalia Contracts (India) (NSE:AHLUCONT) Paint A Concerning Picture

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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 briefly looking over the numbers, we don't think Ahluwalia Contracts (India) (NSE:AHLUCONT) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Understanding 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. To calculate this metric for Ahluwalia Contracts (India), this is the formula:

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

0.19 = ₹2.2b ÷ (₹20b - ₹8.8b) (Based on the trailing twelve months to March 2022).

Thus, Ahluwalia Contracts (India) has an ROCE of 19%. On its own, that's a standard return, however it's much better than the 9.4% generated by the Construction industry.

View our latest analysis for Ahluwalia Contracts (India)

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 Ahluwalia Contracts (India)'s past further, check out this free graph of past earnings, revenue and cash flow.

The Trend Of ROCE

When we looked at the ROCE trend at Ahluwalia Contracts (India), we didn't gain much confidence. To be more specific, ROCE has fallen from 26% over the last five years. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Ahluwalia Contracts (India) has done well to pay down its current liabilities to 43% 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. Keep in mind 43% is still pretty high, so those risks are still somewhat prevalent.

Our Take On Ahluwalia Contracts (India)'s ROCE

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Ahluwalia Contracts (India). These trends are starting to be recognized by investors since the stock has delivered a 17% gain to shareholders who've held over the last five years. So this stock may still be an appealing investment opportunity, if other fundamentals prove to be sound.

Ahluwalia Contracts (India) does have some risks, we noticed 2 warning signs (and 1 which is significant) we think you should know about.

While Ahluwalia Contracts (India) 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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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.