Be Wary Of Dr. Lal PathLabs (NSE:LALPATHLAB) And Its Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. However, after briefly looking over the numbers, we don't think Dr. Lal PathLabs (NSE:LALPATHLAB) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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 Dr. Lal PathLabs is:

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

0.18 = ₹3.4b ÷ (₹24b - ₹4.7b) (Based on the trailing twelve months to March 2023).

Therefore, Dr. Lal PathLabs has an ROCE of 18%. In absolute terms, that's a satisfactory return, but compared to the Healthcare industry average of 13% it's much better.

Check out our latest analysis for Dr. Lal PathLabs

In the above chart we have measured Dr. Lal PathLabs' 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.

SWOT Analysis for Dr. Lal PathLabs

How Are Returns Trending?

When we looked at the ROCE trend at Dr. Lal PathLabs, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 18% from 29% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.

The Bottom Line On Dr. Lal PathLabs' ROCE

Bringing it all together, while we're somewhat encouraged by Dr. Lal PathLabs' reinvestment in its own business, we're aware that returns are shrinking. Investors must think there's better things to come because the stock has knocked it out of the park, delivering a 133% gain to shareholders who have held over the last five years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

Dr. Lal PathLabs does have some risks though, and we've spotted 2 warning signs for Dr. Lal PathLabs that you might be interested in.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive 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.