There Are Reasons To Feel Uneasy About Vardhman Textiles' (NSE:VTL) Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. However, after briefly looking over the numbers, we don't think Vardhman Textiles (NSE:VTL) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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 Vardhman Textiles, this is the formula:

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

0.057 = ₹5.7b ÷ (₹120b - ₹21b) (Based on the trailing twelve months to March 2024).

So, Vardhman Textiles has an ROCE of 5.7%. In absolute terms, that's a low return and it also under-performs the Luxury industry average of 10%.

View our latest analysis for Vardhman Textiles

Above you can see how the current ROCE for Vardhman Textiles compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for Vardhman Textiles .

What Can We Tell From Vardhman Textiles' ROCE Trend?

When we looked at the ROCE trend at Vardhman Textiles, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 5.7% from 13% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

What We Can Learn From Vardhman Textiles' ROCE

Bringing it all together, while we're somewhat encouraged by Vardhman Textiles' reinvestment in its own business, we're aware that returns are shrinking. Yet to long term shareholders the stock has gifted them an incredible 141% return in the last five years, so the market appears to be rosy about its future. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

Vardhman Textiles does have some risks, we noticed 2 warning signs (and 1 which is a bit unpleasant) we think you should know about.

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. 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.

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