Drillcon (STO:DRIL) Is Finding It Tricky To Allocate Its Capital

If you're looking at a mature business that's past the growth phase, what are some of the underlying trends that pop up? 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. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. So after glancing at the trends within Drillcon (STO:DRIL), we weren't too hopeful.

What Is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Drillcon:

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

0.023 = kr4.9m ÷ (kr344m - kr134m) (Based on the trailing twelve months to March 2023).

Thus, Drillcon has an ROCE of 2.3%. Ultimately, that's a low return and it under-performs the Metals and Mining industry average of 14%.

View our latest analysis for Drillcon

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'd like to look at how Drillcon has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Can We Tell From Drillcon's ROCE Trend?

We are a bit worried about the trend of returns on capital at Drillcon. About five years ago, returns on capital were 15%, however they're now substantially lower than that as we saw above. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. If these trends continue, we wouldn't expect Drillcon to turn into a multi-bagger.

The Bottom Line On Drillcon's ROCE

In summary, it's unfortunate that Drillcon is generating lower returns from the same amount of capital. Despite the concerning underlying trends, the stock has actually gained 22% 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.

Drillcon does come with some risks though, we found 3 warning signs in our investment analysis, and 2 of those are concerning...

While Drillcon 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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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.