Should You Be Impressed By Emkay Taps and Cutting Tools' (NSE:EMKAYTOOLS) Returns on Capital?

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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Having said that, from a first glance at Emkay Taps and Cutting Tools (NSE:EMKAYTOOLS) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Understanding Return On Capital Employed (ROCE)

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Emkay Taps and Cutting Tools:

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

0.11 = ₹144m ÷ (₹1.4b - ₹73m) (Based on the trailing twelve months to September 2020).

Thus, Emkay Taps and Cutting Tools has an ROCE of 11%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Machinery industry average of 10%.

Check out our latest analysis for Emkay Taps and Cutting Tools

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 want to delve into the historical earnings, revenue and cash flow of Emkay Taps and Cutting Tools, check out these free graphs here.

How Are Returns Trending?

When we looked at the ROCE trend at Emkay Taps and Cutting Tools, we didn't gain much confidence. Around five years ago the returns on capital were 26%, but since then they've fallen to 11%. However it looks like Emkay Taps and Cutting Tools might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

The Key Takeaway

Bringing it all together, while we're somewhat encouraged by Emkay Taps and Cutting Tools' reinvestment in its own business, we're aware that returns are shrinking. Since the stock has gained an impressive 29% over the last three years, investors must think there's better things to come. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

One more thing: We've identified 3 warning signs with Emkay Taps and Cutting Tools (at least 2 which are concerning) , and understanding them would certainly be useful.

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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