There Are Reasons To Feel Uneasy About Gujarat State Fertilizers & Chemicals' (NSE:GSFC) Returns On Capital

Did you know there are some financial metrics that can provide clues of a potential 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. In light of that, when we looked at Gujarat State Fertilizers & Chemicals (NSE:GSFC) and its ROCE trend, we weren't exactly thrilled.

Understanding 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. Analysts use this formula to calculate it for Gujarat State Fertilizers & Chemicals:

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

0.024 = ₹3.3b ÷ (₹151b - ₹13b) (Based on the trailing twelve months to March 2024).

Thus, Gujarat State Fertilizers & Chemicals has an ROCE of 2.4%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 13%.

See our latest analysis for Gujarat State Fertilizers & Chemicals

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 Gujarat State Fertilizers & Chemicals' past further, check out this free graph covering Gujarat State Fertilizers & Chemicals' past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at Gujarat State Fertilizers & Chemicals doesn't inspire confidence. To be more specific, ROCE has fallen from 9.0% over the last five years. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

On a side note, Gujarat State Fertilizers & Chemicals has done well to pay down its current liabilities to 8.7% 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.

What We Can Learn From Gujarat State Fertilizers & Chemicals' ROCE

We're a bit apprehensive about Gujarat State Fertilizers & Chemicals because despite more capital being deployed in the business, returns on that capital and sales have both fallen. The market must be rosy on the stock's future because even though the underlying trends aren't too encouraging, the stock has soared 230%. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

On a separate note, we've found 2 warning signs for Gujarat State Fertilizers & Chemicals you'll probably want to know about.

While Gujarat State Fertilizers & Chemicals isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.

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