Liberty Shoes (NSE:LIBERTSHOE) May Have Issues Allocating Its Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. 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. However, after investigating Liberty Shoes (NSE:LIBERTSHOE), we don't think it's current trends fit the mold of a multi-bagger.

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. To calculate this metric for Liberty Shoes, this is the formula:

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

0.032 = ₹90m ÷ (₹5.6b - ₹2.8b) (Based on the trailing twelve months to December 2020).

Therefore, Liberty Shoes has an ROCE of 3.2%. In absolute terms, that's a low return and it also under-performs the Luxury industry average of 9.6%.

See our latest analysis for Liberty Shoes

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'd like to look at how Liberty Shoes has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Can We Tell From Liberty Shoes' ROCE Trend?

In terms of Liberty Shoes' historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 3.2% from 17% five years ago. 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 separate but related note, it's important to know that Liberty Shoes has a current liabilities to total assets ratio of 50%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On Liberty Shoes' ROCE

In summary, we're somewhat concerned by Liberty Shoes' diminishing returns on increasing amounts of capital. It should come as no surprise then that the stock has fallen 19% over the last five years, so it looks like investors are recognizing these changes. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

One final note, you should learn about the 3 warning signs we've spotted with Liberty Shoes (including 2 which are a bit unpleasant) .

While Liberty Shoes 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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This article by Simply Wall St is general in nature. 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.
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