Sarla Performance Fibers (NSE:SARLAPOLY) May Have Issues Allocating Its Capital

What underlying fundamental trends can indicate that a company might be in decline? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. On that note, looking into Sarla Performance Fibers (NSE:SARLAPOLY), we weren't too upbeat about how things were going.

Understanding 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. Analysts use this formula to calculate it for Sarla Performance Fibers:

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

0.075 = ₹305m ÷ (₹5.9b - ₹1.8b) (Based on the trailing twelve months to March 2021).

So, Sarla Performance Fibers has an ROCE of 7.5%. Ultimately, that's a low return and it under-performs the Luxury industry average of 9.9%.

See our latest analysis for Sarla Performance Fibers

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

So How Is Sarla Performance Fibers' ROCE Trending?

There is reason to be cautious about Sarla Performance Fibers, given the returns are trending downwards. About five years ago, returns on capital were 10%, however they're now substantially lower than that as we saw above. Meanwhile, capital employed in the business has stayed roughly the flat over the period. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. If these trends continue, we wouldn't expect Sarla Performance Fibers to turn into a multi-bagger.

The Bottom Line On Sarla Performance Fibers' 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. It should come as no surprise then that the stock has fallen 28% over the last five years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

Sarla Performance Fibers does come with some risks though, we found 3 warning signs in our investment analysis, and 1 of those is a bit unpleasant...

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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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