There Are Reasons To Feel Uneasy About Aarvi Encon's (NSE:AARVI) Returns On Capital

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. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Although, when we looked at Aarvi Encon (NSE:AARVI), it didn't seem to tick all of these boxes.

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. The formula for this calculation on Aarvi Encon is:

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

0.099 = ₹86m ÷ (₹1.2b - ₹335m) (Based on the trailing twelve months to March 2021).

So, Aarvi Encon has an ROCE of 9.9%. On its own, that's a low figure but it's around the 11% average 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 want to delve into the historical earnings, revenue and cash flow of Aarvi Encon, check out these free graphs here.

How Are Returns Trending?

On the surface, the trend of ROCE at Aarvi Encon doesn't inspire confidence. Over the last five years, returns on capital have decreased to 9.9% from 14% five years ago. 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 side note, Aarvi Encon has done well to pay down its current liabilities to 28% of total assets. That could partly explain why the ROCE has dropped. 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.

Our Take On Aarvi Encon's ROCE

To conclude, we've found that Aarvi Encon is reinvesting in the business, but returns have been falling. And investors may be recognizing these trends since the stock has only returned a total of 0.5% to shareholders over the last three years. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.

On a separate note, we've found 3 warning signs for Aarvi Encon you'll probably want to know about.

While Aarvi Encon may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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