What financial metrics can indicate to us that a company is maturing or even in decline? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. This reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. So after glancing at the trends within REN - Redes Energéticas Nacionais SGPS (ELI:RENE), we weren't too hopeful.
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 REN - Redes Energéticas Nacionais SGPS, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.048 = €207m ÷ (€5.2b - €850m) (Based on the trailing twelve months to September 2020).
Thus, REN - Redes Energéticas Nacionais SGPS has an ROCE of 4.8%. On its own that's a low return on capital but it's in line with the industry's average returns of 4.8%.
Above you can see how the current ROCE for REN - Redes Energéticas Nacionais SGPS compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering REN - Redes Energéticas Nacionais SGPS here for free.
The Trend Of ROCE
We are a bit worried about the trend of returns on capital at REN - Redes Energéticas Nacionais SGPS. To be more specific, the ROCE was 6.8% five years ago, but since then it has dropped noticeably. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. If these trends continue, we wouldn't expect REN - Redes Energéticas Nacionais SGPS to turn into a multi-bagger.
What We Can Learn From REN - Redes Energéticas Nacionais SGPS' ROCE
In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. Despite the concerning underlying trends, the stock has actually gained 30% over the last five years, so it might be that the investors are expecting the trends to reverse. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.
One more thing, we've spotted 2 warning signs facing REN - Redes Energéticas Nacionais SGPS that you might find interesting.
While REN - Redes Energéticas Nacionais SGPS 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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