Why You Should Care About Kaveri Seed's (NSE:KSCL) Strong Returns On 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. So, when we ran our eye over Kaveri Seed's (NSE:KSCL) trend of ROCE, we really liked what we saw.

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. The formula for this calculation on Kaveri Seed is:

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

0.21 = ₹2.8b ÷ (₹19b - ₹6.3b) (Based on the trailing twelve months to September 2020).

So, Kaveri Seed has an ROCE of 21%. That's a fantastic return and not only that, it outpaces the average of 12% earned by companies in a similar industry.

View our latest analysis for Kaveri Seed

In the above chart we have measured Kaveri Seed's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What The Trend Of ROCE Can Tell Us

We'd be pretty happy with returns on capital like Kaveri Seed. The company has employed 43% more capital in the last five years, and the returns on that capital have remained stable at 21%. Returns like this are the envy of most businesses and given it has repeatedly reinvested at these rates, that's even better. If Kaveri Seed can keep this up, we'd be very optimistic about its future.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 32% of total assets, this reported ROCE would probably be less than21% because total capital employed would be higher.The 21% ROCE could be even lower if current liabilities weren't 32% of total assets, because the the formula would show a larger base of total capital employed. With that in mind, just be wary if this ratio increases in the future, because if it gets particularly high, this brings with it some new elements of risk.

The Key Takeaway

In the end, the company has proven it can reinvest it's capital at high rates of returns, which you'll remember is a trait of a multi-bagger. And given the stock has only risen 22% over the last five years, we'd suspect the market is beginning to recognize these trends. So to determine if Kaveri Seed is a multi-bagger going forward, we'd suggest digging deeper into the company's other fundamentals.

If you'd like to know about the risks facing Kaveri Seed, we've discovered 2 warning signs that you should be aware of.

High returns are a key ingredient to strong performance, so check out our free list ofstocks earning high returns on equity with solid balance sheets.

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