Tejas Networks (NSE:TEJASNET) Could Be Struggling To Allocate Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Having said that, from a first glance at Tejas Networks (NSE:TEJASNET) 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)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Tejas Networks:

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

0.016 = ₹185m ÷ (₹13b - ₹1.4b) (Based on the trailing twelve months to June 2021).

So, Tejas Networks has an ROCE of 1.6%. In absolute terms, that's a low return and it also under-performs the Communications industry average of 7.3%.

Check out our latest analysis for Tejas Networks

Above you can see how the current ROCE for Tejas Networks compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Tejas Networks.

How Are Returns Trending?

On the surface, the trend of ROCE at Tejas Networks doesn't inspire confidence. Over the last five years, returns on capital have decreased to 1.6% from 16% 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, Tejas Networks has decreased its current liabilities to 10% 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. 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.

What We Can Learn From Tejas Networks' ROCE

While returns have fallen for Tejas Networks in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. These growth trends haven't led to growth returns though, since the stock has fallen 26% over the last three years. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

One more thing to note, we've identified 1 warning sign with Tejas Networks and understanding it should be part of your investment process.

While Tejas Networks 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. 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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