There Are Reasons To Feel Uneasy About KSG Agro's (WSE:KSG) Returns On Capital

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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. So while KSG Agro (WSE:KSG) has a high ROCE right now, lets see what we can decipher from how returns are changing.

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 KSG Agro, this is the formula:

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

0.21 = US$8.0m ÷ (US$57m - US$19m) (Based on the trailing twelve months to September 2022).

So, KSG Agro has an ROCE of 21%. That's a fantastic return and not only that, it outpaces the average of 15% earned by companies in a similar industry.

View our latest analysis for KSG Agro

Historical performance is a great place to start when researching a stock so above you can see the gauge for KSG Agro's ROCE against it's prior returns. If you're interested in investigating KSG Agro's past further, check out this free graph of past earnings, revenue and cash flow.

So How Is KSG Agro's ROCE Trending?

On the surface, the trend of ROCE at KSG Agro doesn't inspire confidence. While it's comforting that the ROCE is high, five years ago it was 46%. 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, KSG Agro has done well to pay down its current liabilities to 33% of total assets. So we could link some of this to the decrease in ROCE. 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Key Takeaway

In summary, we're somewhat concerned by KSG Agro's diminishing returns on increasing amounts of capital. Yet despite these concerning fundamentals, the stock has performed strongly with a 57% return over the last five years, so investors appear very optimistic. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

KSG Agro does have some risks, we noticed 4 warning signs (and 2 which are potentially serious) we think you should know about.

If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets 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.