Godrej Agrovet (NSE:GODREJAGRO) Could Be Struggling To Allocate Capital

There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. In light of that, when we looked at Godrej Agrovet (NSE:GODREJAGRO) and its ROCE trend, we weren't exactly thrilled.

What is 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 Godrej Agrovet is:

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

0.17 = ₹4.5b ÷ (₹52b - ₹25b) (Based on the trailing twelve months to December 2021).

So, Godrej Agrovet has an ROCE of 17%. On its own, that's a standard return, however it's much better than the 13% generated by the Food industry.

Check out our latest analysis for Godrej Agrovet

In the above chart we have measured Godrej Agrovet's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Godrej Agrovet here for free.

How Are Returns Trending?

When we looked at the ROCE trend at Godrej Agrovet, we didn't gain much confidence. To be more specific, ROCE has fallen from 25% over the last five years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

Another thing to note, Godrej Agrovet has a high ratio of current liabilities to total assets of 47%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Bottom Line On Godrej Agrovet's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Godrej Agrovet is reinvesting for growth and has higher sales as a result. These trends are starting to be recognized by investors since the stock has delivered a 8.6% gain to shareholders who've held over the last three years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

Godrej Agrovet does come with some risks though, we found 2 warning signs in our investment analysis, and 1 of those is a bit concerning...

While Godrej Agrovet may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.