Suzlon Energy (NSE:SUZLON) Will Be Hoping To Turn Its Returns On Capital Around

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, while the ROCE is currently high for Suzlon Energy (NSE:SUZLON), we aren't jumping out of our chairs because returns are decreasing.

Understanding 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. To calculate this metric for Suzlon Energy, this is the formula:

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

0.21 = ₹6.1b ÷ (₹55b - ₹27b) (Based on the trailing twelve months to June 2023).

Therefore, Suzlon Energy has an ROCE of 21%. That's a fantastic return and not only that, it outpaces the average of 14% earned by companies in a similar industry.

See our latest analysis for Suzlon Energy

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

So How Is Suzlon Energy's ROCE Trending?

On the surface, the trend of ROCE at Suzlon Energy doesn't inspire confidence. Historically returns on capital were even higher at 39%, but they have dropped over the last five years. 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.

On a side note, Suzlon Energy has done well to pay down its current liabilities to 49% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE. Keep in mind 49% is still pretty high, so those risks are still somewhat prevalent.

What We Can Learn From Suzlon Energy's ROCE

From the above analysis, we find it rather worrisome that returns on capital and sales for Suzlon Energy have fallen, meanwhile the business is employing more capital than it was five years ago. The market must be rosy on the stock's future because even though the underlying trends aren't too encouraging, the stock has soared 149%. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

Suzlon Energy does come with some risks though, we found 5 warning signs in our investment analysis, and 2 of those can't be ignored...

If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning 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.