Here's What's Concerning About Reditus Sociedade Gestora de Participações Sociais' (ELI:RED) Returns On Capital

What underlying fundamental trends can indicate that a company might be in decline? A business that's potentially in decline often shows two trends, a return on capital employed (ROCE) that's declining, and a base of capital employed that's also declining. This combination can tell you that not only is the company investing less, it's earning less on what it does invest. So after we looked into Reditus Sociedade Gestora de Participações Sociais (ELI:RED), the trends above didn't look too great.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Reditus Sociedade Gestora de Participações Sociais, this is the formula:

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

0.017 = €1.3m ÷ (€160m - €83m) (Based on the trailing twelve months to December 2020).

So, Reditus Sociedade Gestora de Participações Sociais has an ROCE of 1.7%. Ultimately, that's a low return and it under-performs the IT industry average of 13%.

Check out our latest analysis for Reditus Sociedade Gestora de Participações Sociais

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 Reditus Sociedade Gestora de Participações Sociais, check out these free graphs here.

What Can We Tell From Reditus Sociedade Gestora de Participações Sociais' ROCE Trend?

We are a bit anxious about the trends of ROCE at Reditus Sociedade Gestora de Participações Sociais. Unfortunately, returns have declined substantially over the last five years to the 1.7% we see today. In addition to that, Reditus Sociedade Gestora de Participações Sociais is now employing 43% less capital than it was five years ago. The combination of lower ROCE and less capital employed can indicate that a business is likely to be facing some competitive headwinds or seeing an erosion to its moat. If these underlying trends continue, we wouldn't be too optimistic going forward.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 52%, which has impacted the ROCE. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. 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.

What We Can Learn From Reditus Sociedade Gestora de Participações Sociais' ROCE

In summary, it's unfortunate that Reditus Sociedade Gestora de Participações Sociais is shrinking its capital base and also generating lower returns. We expect this has contributed to the stock plummeting 85% during the last five years. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

If you want to know some of the risks facing Reditus Sociedade Gestora de Participações Sociais we've found 2 warning signs (1 can't be ignored!) that you should be aware of before investing here.

While Reditus Sociedade Gestora de Participações Sociais 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.

If you're looking for stocks to buy, use the lowest-cost* platform that is rated #1 Overall by Barron’s, Interactive Brokers. Trade stocks, options, futures, forex, bonds and funds on 135 markets, all from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

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