IFGL Refractories (NSE:IFGLEXPOR) Might Be Having Difficulty Using Its Capital Effectively

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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 IFGL Refractories (NSE:IFGLEXPOR) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. To calculate this metric for IFGL Refractories, this is the formula:

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

0.12 = ₹1.1b ÷ (₹11b - ₹1.8b) (Based on the trailing twelve months to December 2020).

Thus, IFGL Refractories has an ROCE of 12%. That's a relatively normal return on capital, and it's around the 14% generated by the Basic Materials industry.

Check out our latest analysis for IFGL Refractories

Historical performance is a great place to start when researching a stock so above you can see the gauge for IFGL Refractories' ROCE against it's prior returns. If you're interested in investigating IFGL Refractories' past further, check out this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For IFGL Refractories Tell Us?

When we looked at the ROCE trend at IFGL Refractories, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 12% from 21% 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.

On a side note, IFGL Refractories has done well to pay down its current liabilities to 17% of total assets. So we could link some of this to the decrease in ROCE. 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. 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.

The Bottom Line On IFGL Refractories' ROCE

Bringing it all together, while we're somewhat encouraged by IFGL Refractories' reinvestment in its own business, we're aware that returns are shrinking. Although the market must be expecting these trends to improve because the stock has gained 67% over the last three years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

IFGL Refractories does have some risks though, and we've spotted 3 warning signs for IFGL Refractories 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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