Be Wary Of RattanIndia Power (NSE:RTNPOWER) And Its Returns On Capital

When researching a stock for investment, what can tell us that the company is in decline? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. Basically the company is earning less on its investments and it is also reducing its total assets. So after we looked into RattanIndia Power (NSE:RTNPOWER), the trends above didn't look too great.

Return On Capital Employed (ROCE): What is it?

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 RattanIndia Power, this is the formula:

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

0.023 = ₹2.2b ÷ (₹186b - ₹89b) (Based on the trailing twelve months to March 2021).

So, RattanIndia Power has an ROCE of 2.3%. Ultimately, that's a low return and it under-performs the Renewable Energy industry average of 6.3%.

Check out our latest analysis for RattanIndia Power

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 want to delve into the historical earnings, revenue and cash flow of RattanIndia Power, check out these free graphs here.

So How Is RattanIndia Power's ROCE Trending?

We are a bit anxious about the trends of ROCE at RattanIndia Power. The company used to generate 4.1% on its capital five years ago but it has since fallen noticeably. On top of that, the business is utilizing 44% less capital within its operations. The fact that both are shrinking is an indication that the business is going through some tough times. Typically businesses that exhibit these characteristics aren't the ones that tend to multiply over the long term, because statistically speaking, they've already gone through the growth phase of their life cycle.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 48%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 2.3%. What this means is that in reality, a rather large portion of the business is being funded by the likes of the company's suppliers or short-term creditors, which can bring some risks of its own.

Our Take On RattanIndia Power's ROCE

In short, lower returns and decreasing amounts capital employed in the business doesn't fill us with confidence. Long term shareholders who've owned the stock over the last five years have experienced a 36% depreciation in their investment, so it appears the market might not like these trends either. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for RattanIndia Power (of which 1 shouldn't be ignored!) that you should know about.

While RattanIndia Power 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.

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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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