The Returns On Capital At Modison (NSE:MODISONLTD) Don't Inspire Confidence

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 Modison (NSE:MODISONLTD) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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. The formula for this calculation on Modison is:

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

0.085 = ₹159m ÷ (₹2.1b - ₹260m) (Based on the trailing twelve months to December 2022).

Thus, Modison has an ROCE of 8.5%. Ultimately, that's a low return and it under-performs the Electrical industry average of 15%.

View our latest analysis for Modison

Historical performance is a great place to start when researching a stock so above you can see the gauge for Modison's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Modison, check out these free graphs here.

The Trend Of ROCE

On the surface, the trend of ROCE at Modison doesn't inspire confidence. Around five years ago the returns on capital were 17%, but since then they've fallen to 8.5%. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

What We Can Learn From Modison's ROCE

In summary, Modison is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Since the stock has gained an impressive 19% over the last year, 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 final note, you should learn about the 5 warning signs we've spotted with Modison (including 1 which is potentially serious) .

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. 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.