Investors Could Be Concerned With Indian Hume Pipe's (NSE:INDIANHUME) Returns On Capital

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after investigating Indian Hume Pipe (NSE:INDIANHUME), we don't think it's current trends fit the mold of a multi-bagger.

What is 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. To calculate this metric for Indian Hume Pipe, this is the formula:

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

0.16 = ₹1.1b ÷ (₹20b - ₹13b) (Based on the trailing twelve months to December 2020).

Thus, Indian Hume Pipe has an ROCE of 16%. On its own, that's a standard return, however it's much better than the 8.4% generated by the Construction industry.

See our latest analysis for Indian Hume Pipe

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'd like to look at how Indian Hume Pipe has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

How Are Returns Trending?

When we looked at the ROCE trend at Indian Hume Pipe, we didn't gain much confidence. Around five years ago the returns on capital were 27%, but since then they've fallen to 16%. 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.

Another thing to note, Indian Hume Pipe has a high ratio of current liabilities to total assets of 65%. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On Indian Hume Pipe's ROCE

In summary, we're somewhat concerned by Indian Hume Pipe's diminishing returns on increasing amounts of capital. Investors must expect better things on the horizon though because the stock has risen 8.4% in the last five years. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for Indian Hume Pipe (of which 1 is significant!) that you should know about.

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. 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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