Returns On Capital Signal Difficult Times Ahead For Indian Terrain Fashions (NSE:INDTERRAIN)

When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount of capital employed. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. So after glancing at the trends within Indian Terrain Fashions (NSE:INDTERRAIN), we weren't too hopeful.

What Is Return On Capital Employed (ROCE)?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on Indian Terrain Fashions is:

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

0.088 = ₹233m ÷ (₹5.1b - ₹2.5b) (Based on the trailing twelve months to September 2023).

Thus, Indian Terrain Fashions has an ROCE of 8.8%. On its own, that's a low figure but it's around the 10% average generated by the Luxury industry.

View our latest analysis for Indian Terrain Fashions

Historical performance is a great place to start when researching a stock so above you can see the gauge for Indian Terrain Fashions' ROCE against it's prior returns. If you'd like to look at how Indian Terrain Fashions has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

We are a bit worried about the trend of returns on capital at Indian Terrain Fashions. About five years ago, returns on capital were 19%, however they're now substantially lower than that as we saw above. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. 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. If these trends continue, we wouldn't expect Indian Terrain Fashions to turn into a multi-bagger.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 48%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 8.8%. And with current liabilities at these levels, suppliers or short-term creditors are effectively funding a large part of the business, which can introduce some risks.

Our Take On Indian Terrain Fashions' ROCE

In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. Investors haven't taken kindly to these developments, since the stock has declined 29% from where it was five years ago. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

If you want to know some of the risks facing Indian Terrain Fashions we've found 2 warning signs (1 is significant!) that you should be aware of before investing here.

While Indian Terrain Fashions 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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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.