India Pesticides' (NSE:IPL) Returns On Capital Not Reflecting Well On The Business

What trends should we look for it we want to identify stocks that can multiply in value over the long term? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. In light of that, when we looked at India Pesticides (NSE:IPL) and its ROCE trend, we weren't exactly thrilled.

Return On Capital Employed (ROCE): What Is It?

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. To calculate this metric for India Pesticides, this is the formula:

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

0.19 = ₹1.5b ÷ (₹9.2b - ₹1.3b) (Based on the trailing twelve months to June 2023).

So, India Pesticides has an ROCE of 19%. On its own, that's a standard return, however it's much better than the 14% generated by the Chemicals industry.

See our latest analysis for India Pesticides

Above you can see how the current ROCE for India Pesticides compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering India Pesticides here for free.

What Can We Tell From India Pesticides' ROCE Trend?

When we looked at the ROCE trend at India Pesticides, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 19% from 34% 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a related note, India Pesticides has decreased its current liabilities to 14% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for India Pesticides. In light of this, the stock has only gained 0.3% over the last year. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

On a final note, we've found 2 warning signs for India Pesticides that we think you should be aware of.

While India Pesticides 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.