Vindhya Telelinks (NSE:VINDHYATEL) Is Reinvesting At Lower Rates Of Return

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. 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 Vindhya Telelinks (NSE:VINDHYATEL) and its ROCE trend, we weren't exactly thrilled.

What is 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 Vindhya Telelinks, this is the formula:

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

0.058 = ₹2.0b ÷ (₹46b - ₹12b) (Based on the trailing twelve months to September 2020).

Thus, Vindhya Telelinks has an ROCE of 5.8%. On its own that's a low return on capital but it's in line with the industry's average returns of 5.8%.

View our latest analysis for Vindhya Telelinks

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're interested in investigating Vindhya Telelinks' past further, check out this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Vindhya Telelinks, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 5.8% from 22% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a side note, Vindhya Telelinks has done well to pay down its current liabilities to 26% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. 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.

Our Take On Vindhya Telelinks' ROCE

From the above analysis, we find it rather worrisome that returns on capital and sales for Vindhya Telelinks have fallen, meanwhile the business is employing more capital than it was five years ago. However the stock has delivered a 91% return to shareholders over the last five years, so investors might be expecting the trends to turn around. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

If you'd like to know about the risks facing Vindhya Telelinks, we've discovered 3 warning signs that you should be aware of.

While Vindhya Telelinks 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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