Here's What To Make Of Aarvi Encon's (NSE:AARVI) Returns On Capital

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. In light of that, when we looked at Aarvi Encon (NSE:AARVI) and its ROCE trend, we weren't exactly thrilled.

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 Aarvi Encon is:

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

0.13 = ₹106m ÷ (₹1.0b - ₹239m) (Based on the trailing twelve months to September 2020).

So, Aarvi Encon has an ROCE of 13%. On its own, that's a standard return, however it's much better than the 8.8% generated by the Professional Services industry.

Check out our latest analysis for Aarvi Encon

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're interested in investigating Aarvi Encon's past further, check out this free graph of past earnings, revenue and cash flow.

So How Is Aarvi Encon's ROCE Trending?

When we looked at the ROCE trend at Aarvi Encon, we didn't gain much confidence. To be more specific, ROCE has fallen from 24% over the last five years. However it looks like Aarvi Encon 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.

On a related note, Aarvi Encon has decreased its current liabilities to 23% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line On Aarvi Encon's ROCE

In summary, Aarvi Encon 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 declined 61% over the last three years, investors may not be too optimistic on this trend improving either. Therefore based on the analysis done in this article, we don't think Aarvi Encon has the makings of a multi-bagger.

One more thing: We've identified 2 warning signs with Aarvi Encon (at least 1 which is a bit unpleasant) , and understanding these would certainly be useful.

While Aarvi Encon isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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