The Returns On Capital At Lokesh Machines (NSE:LOKESHMACH) Don't Inspire Confidence

When we're researching a company, it's sometimes hard to find the warning signs, but there are some financial metrics that can help spot trouble early. More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. Having said that, after a brief look, Lokesh Machines (NSE:LOKESHMACH) we aren't filled with optimism, but let's investigate further.

What is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Lokesh Machines is:

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

0.015 = ₹25m ÷ (₹2.8b - ₹1.2b) (Based on the trailing twelve months to September 2020).

Thus, Lokesh Machines has an ROCE of 1.5%. In absolute terms, that's a low return and it also under-performs the Machinery industry average of 9.5%.

Check out our latest analysis for Lokesh Machines

Historical performance is a great place to start when researching a stock so above you can see the gauge for Lokesh Machines' ROCE against it's prior returns. If you're interested in investigating Lokesh Machines' past further, check out this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Lokesh Machines Tell Us?

There is reason to be cautious about Lokesh Machines, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 11% that they were earning five years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Lokesh Machines becoming one if things continue as they have.

On a side note, Lokesh Machines' current liabilities are still rather high at 41% of total assets. 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. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Bottom Line On Lokesh Machines' ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. Investors haven't taken kindly to these developments, since the stock has declined 64% from where it was five years ago. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

Lokesh Machines does have some risks, we noticed 4 warning signs (and 3 which are potentially serious) we think 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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