We're Watching These Trends At Lypsa Gems & Jewellery (NSE:LYPSAGEMS)

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings back into the business at ever-higher rates of return. However, after investigating Lypsa Gems & Jewellery (NSE:LYPSAGEMS), we don't think it's current trends fit the mold of a multi-bagger.

Understanding 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. To calculate this metric for Lypsa Gems & Jewellery, this is the formula:

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

0.016 = ₹23m ÷ (₹4.0b - ₹2.5b) (Based on the trailing twelve months to December 2019).

Thus, Lypsa Gems & Jewellery has an ROCE of 1.6%. Ultimately, that's a low return and it under-performs the Luxury industry average of 12%.

View our latest analysis for Lypsa Gems & Jewellery

Historical performance is a great place to start when researching a stock so above you can see the gauge for Lypsa Gems & Jewellery's ROCE against it's prior returns. If you'd like to look at how Lypsa Gems & Jewellery 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 Lypsa Gems & Jewellery's ROCE Trend?

On the surface, the trend of ROCE at Lypsa Gems & Jewellery doesn't inspire confidence. Over the last five years, returns on capital have decreased to 1.6% from 51% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. 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 side note, Lypsa Gems & Jewellery has done well to pay down its current liabilities to 64% 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. 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. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

In Conclusion...

We're a bit apprehensive about Lypsa Gems & Jewellery because despite more capital being deployed in the business, returns on that capital and sales have both fallen. We expect this has contributed to the stock plummeting 92% during the last five years. Unless these trends revert to a more positive trajectory, we would look elsewhere.

Lypsa Gems & Jewellery does come with some risks though, we found 3 warning signs in our investment analysis, and 2 of those don't sit too well with us...

While Lypsa Gems & Jewellery 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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