The Returns On Capital At Liberty Shoes (NSE:LIBERTSHOE) Don't Inspire Confidence

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. However, after briefly looking over the numbers, we don't think Liberty Shoes (NSE:LIBERTSHOE) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Return On Capital Employed (ROCE): What Is It?

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 Liberty Shoes is:

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

0.11 = ₹303m ÷ (₹4.7b - ₹1.9b) (Based on the trailing twelve months to December 2022).

So, Liberty Shoes has an ROCE of 11%. That's a relatively normal return on capital, and it's around the 12% generated by the Luxury industry.

See our latest analysis for Liberty Shoes

Historical performance is a great place to start when researching a stock so above you can see the gauge for Liberty Shoes' ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Liberty Shoes, check out these free graphs here.

What Does the ROCE Trend For Liberty Shoes Tell Us?

On the surface, the trend of ROCE at Liberty Shoes doesn't inspire confidence. Around five years ago the returns on capital were 14%, but since then they've fallen to 11%. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a related note, Liberty Shoes has decreased its current liabilities to 41% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money. Keep in mind 41% is still pretty high, so those risks are still somewhat prevalent.

The Bottom Line

In summary, despite lower returns in the short term, we're encouraged to see that Liberty Shoes is reinvesting for growth and has higher sales as a result. However, total returns to shareholders over the last five years have been flat, which could indicate these growth trends potentially aren't accounted for yet by investors. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

Liberty Shoes does have some risks, we noticed 4 warning signs (and 1 which is concerning) we think you should know about.

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. 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.