Should You Be Worried About Suryalakshmi Cotton Mills' (NSE:SURYALAXMI) Returns On 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 the company is producing less profit from its investments and its total assets are decreasing. On that note, looking into Suryalakshmi Cotton Mills (NSE:SURYALAXMI), we weren't too upbeat about how things were going.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on Suryalakshmi Cotton Mills is:

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

0.0011 = ₹4.1m ÷ (₹6.8b - ₹3.0b) (Based on the trailing twelve months to December 2020).

Thus, Suryalakshmi Cotton Mills has an ROCE of 0.1%. Ultimately, that's a low return and it under-performs the Luxury industry average of 8.7%.

Check out our latest analysis for Suryalakshmi Cotton Mills

Historical performance is a great place to start when researching a stock so above you can see the gauge for Suryalakshmi Cotton Mills' ROCE against it's prior returns. If you're interested in investigating Suryalakshmi Cotton Mills' past further, check out this free graph of past earnings, revenue and cash flow.

The Trend Of ROCE

In terms of Suryalakshmi Cotton Mills' historical ROCE trend, it isn't fantastic. Unfortunately, returns have declined substantially over the last five years to the 0.1% we see today. On top of that, the business is utilizing 32% less capital within its operations. The fact that both are shrinking is an indication that the business is going through some tough times. Typically businesses that exhibit these characteristics aren't the ones that tend to multiply over the long term, because statistically speaking, they've already gone through the growth phase of their life cycle.

On a side note, Suryalakshmi Cotton Mills' current liabilities are still rather high at 44% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Bottom Line

To see Suryalakshmi Cotton Mills reducing the capital employed in the business in tandem with diminishing returns, is concerning. We expect this has contributed to the stock plummeting 71% during the last five years. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

Suryalakshmi Cotton Mills does come with some risks though, we found 4 warning signs in our investment analysis, and 3 of those don't sit too well with us...

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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