Centum Electronics (NSE:CENTUM) Shareholders Will Want The ROCE Trajectory To Continue

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. So when we looked at Centum Electronics (NSE:CENTUM) and its trend of ROCE, we really liked what we saw.

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. Analysts use this formula to calculate it for Centum Electronics:

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

0.12 = ₹399m ÷ (₹9.2b - ₹5.9b) (Based on the trailing twelve months to June 2022).

Therefore, Centum Electronics has an ROCE of 12%. That's a relatively normal return on capital, and it's around the 11% generated by the Electronic industry.

Check out the opportunities and risks within the IN Electronic industry.

Historical performance is a great place to start when researching a stock so above you can see the gauge for Centum Electronics' ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Centum Electronics, check out these free graphs here.

What The Trend Of ROCE Can Tell Us

Centum Electronics is showing promise given that its ROCE is trending up and to the right. Looking at the data, we can see that even though capital employed in the business has remained relatively flat, the ROCE generated has risen by 112% over the last five years. So our take on this is that the business has increased efficiencies to generate these higher returns, all the while not needing to make any additional investments. On that front, things are looking good so it's worth exploring what management has said about growth plans going forward.

Another thing to note, Centum Electronics has a high ratio of current liabilities to total assets of 64%. 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. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

What We Can Learn From Centum Electronics' ROCE

To sum it up, Centum Electronics is collecting higher returns from the same amount of capital, and that's impressive. Since the total return from the stock has been almost flat over the last five years, there might be an opportunity here if the valuation looks good. With that in mind, we believe the promising trends warrant this stock for further investigation.

Centum Electronics does come with some risks though, we found 5 warning signs in our investment analysis, and 2 of those make us uncomfortable...

While Centum Electronics 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.