Cera Sanitaryware (NSE:CERA) 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? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Having said that, from a first glance at Cera Sanitaryware (NSE:CERA) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What is Return On Capital Employed (ROCE)?

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 Cera Sanitaryware, this is the formula:

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

0.10 = ₹941m ÷ (₹12b - ₹3.2b) (Based on the trailing twelve months to December 2020).

Therefore, Cera Sanitaryware has an ROCE of 10%. That's a relatively normal return on capital, and it's around the 13% generated by the Building industry.

Check out our latest analysis for Cera Sanitaryware

In the above chart we have measured Cera Sanitaryware's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Cera Sanitaryware here for free.

How Are Returns Trending?

On the surface, the trend of ROCE at Cera Sanitaryware doesn't inspire confidence. Over the last five years, returns on capital have decreased to 10% from 24% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

In Conclusion...

From the above analysis, we find it rather worrisome that returns on capital and sales for Cera Sanitaryware have fallen, meanwhile the business is employing more capital than it was five years ago. Yet despite these poor fundamentals, the stock has gained a huge 119% 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.

Cera Sanitaryware could be trading at an attractive price in other respects, so you might find our free intrinsic value estimation on our platform quite valuable.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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This article by Simply Wall St is general in nature. 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.
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