Vishnu Chemicals (NSE:VISHNU) May Have Issues Allocating Its Capital

There are a few key trends to look for if we want to identify the next multi-bagger. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. In light of that, when we looked at Vishnu Chemicals (NSE:VISHNU) and its ROCE trend, we weren't exactly thrilled.

Understanding Return On Capital Employed (ROCE)

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for Vishnu Chemicals, this is the formula:

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

0.15 = ₹657m ÷ (₹7.7b - ₹3.3b) (Based on the trailing twelve months to June 2021).

Therefore, Vishnu Chemicals has an ROCE of 15%. That's a relatively normal return on capital, and it's around the 17% generated by the Chemicals industry.

Check out our latest analysis for Vishnu 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'd like to look at how Vishnu Chemicals has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

So How Is Vishnu Chemicals' ROCE Trending?

When we looked at the ROCE trend at Vishnu Chemicals, we didn't gain much confidence. Around five years ago the returns on capital were 22%, but since then they've fallen to 15%. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a separate but related note, it's important to know that Vishnu Chemicals has a current liabilities to total assets ratio of 42%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

In Conclusion...

In summary, despite lower returns in the short term, we're encouraged to see that Vishnu Chemicals is reinvesting for growth and has higher sales as a result. And long term investors must be optimistic going forward because the stock has returned a huge 185% to shareholders in the last five years. So should these growth trends continue, we'd be optimistic on the stock going forward.

If you'd like to know about the risks facing Vishnu Chemicals, we've discovered 2 warning signs that you should be aware of.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.
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