Capital Allocation Trends At Avadh Sugar & Energy (NSE:AVADHSUGAR) Aren't Ideal

There are a few key trends to look for if we want to identify the next multi-bagger. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. In light of that, when we looked at Avadh Sugar & Energy (NSE:AVADHSUGAR) and its ROCE trend, we weren't exactly thrilled.

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 Avadh Sugar & Energy:

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

0.13 = ₹1.5b ÷ (₹17b - ₹5.8b) (Based on the trailing twelve months to December 2022).

Thus, Avadh Sugar & Energy has an ROCE of 13%. That's a relatively normal return on capital, and it's around the 12% generated by the Food industry.

Check out our latest analysis for Avadh Sugar & Energy

In the above chart we have measured Avadh Sugar & Energy's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Avadh Sugar & Energy.

So How Is Avadh Sugar & Energy's ROCE Trending?

On the surface, the trend of ROCE at Avadh Sugar & Energy doesn't inspire confidence. Over the last five years, returns on capital have decreased to 13% from 57% five years ago. However it looks like Avadh Sugar & Energy might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.

On a related note, Avadh Sugar & Energy has decreased its current liabilities to 34% of total assets. So we could link some of this to the decrease in ROCE. 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

What We Can Learn From Avadh Sugar & Energy's ROCE

To conclude, we've found that Avadh Sugar & Energy is reinvesting in the business, but returns have been falling. Since the stock has gained an impressive 99% over the last five years, investors must think there's better things to come. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

On a final note, we found 3 warning signs for Avadh Sugar & Energy (1 is a bit unpleasant) you should be aware of.

While Avadh Sugar & Energy 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.