Sarveshwar Foods (NSE:SARVESHWAR) Might Be Having Difficulty Using Its Capital Effectively

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Having said that, from a first glance at Sarveshwar Foods (NSE:SARVESHWAR) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Return On Capital Employed (ROCE): What is it?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Sarveshwar Foods is:

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

0.12 = ₹230m ÷ (₹4.7b - ₹2.7b) (Based on the trailing twelve months to September 2021).

Thus, Sarveshwar Foods has an ROCE of 12%. By itself that's a normal return on capital and it's in line with the industry's average returns of 12%.

View our latest analysis for Sarveshwar Foods

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Sarveshwar Foods' past further, check out this free graph of past earnings, revenue and cash flow.

What Can We Tell From Sarveshwar Foods' ROCE Trend?

On the surface, the trend of ROCE at Sarveshwar Foods doesn't inspire confidence. Over the last five years, returns on capital have decreased to 12% from 43% five years ago. 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. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, Sarveshwar Foods has decreased its current liabilities to 58% of total assets. That could partly explain why the ROCE has dropped. 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. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

What We Can Learn From Sarveshwar Foods' ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Sarveshwar Foods is reinvesting for growth and has higher sales as a result. Furthermore the stock has climbed 24% over the last three years, it would appear that investors are upbeat about the future. So should these growth trends continue, we'd be optimistic on the stock going forward.

One final note, you should learn about the 5 warning signs we've spotted with Sarveshwar Foods (including 2 which are significant) .

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.