Investors Could Be Concerned With Ambica Agarbathies Aroma & Industries' (NSE:AMBICAAGAR) Returns On Capital

There are a few key trends to look for if we want to identify the next multi-bagger. 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, from a first glance at Ambica Agarbathies Aroma & Industries (NSE:AMBICAAGAR) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What Is Return On Capital Employed (ROCE)?

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 Ambica Agarbathies Aroma & Industries is:

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

0.054 = ₹101m ÷ (₹2.3b - ₹414m) (Based on the trailing twelve months to September 2022).

So, Ambica Agarbathies Aroma & Industries has an ROCE of 5.4%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 17%.

Check out our latest analysis for Ambica Agarbathies Aroma & Industries

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 want to delve into the historical earnings, revenue and cash flow of Ambica Agarbathies Aroma & Industries, check out these free graphs here.

How Are Returns Trending?

When we looked at the ROCE trend at Ambica Agarbathies Aroma & Industries, we didn't gain much confidence. To be more specific, ROCE has fallen from 21% over the last five years. 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's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a side note, Ambica Agarbathies Aroma & Industries has done well to pay down its current liabilities to 18% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

Our Take On Ambica Agarbathies Aroma & Industries' ROCE

To conclude, we've found that Ambica Agarbathies Aroma & Industries is reinvesting in the business, but returns have been falling. Since the stock has gained an impressive 25% over the last year, investors must think there's better things to come. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

Ambica Agarbathies Aroma & Industries does come with some risks though, we found 3 warning signs in our investment analysis, and 2 of those make us uncomfortable...

While Ambica Agarbathies Aroma & Industries 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.