If you're looking at a mature business that's past the growth phase, what are some of the underlying trends that pop up? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. This indicates the company is producing less profit from its investments and its total assets are decreasing. So after we looked into Archer-Daniels-Midland (NYSE:ADM), the trends above didn't look too great.
Understanding Return On Capital Employed (ROCE)
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for Archer-Daniels-Midland:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.053 = US$1.6b ÷ (US$45b - US$14b) (Based on the trailing twelve months to September 2020).
Therefore, Archer-Daniels-Midland has an ROCE of 5.3%. Ultimately, that's a low return and it under-performs the Food industry average of 7.9%.
Above you can see how the current ROCE for Archer-Daniels-Midland compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Archer-Daniels-Midland.
The Trend Of ROCE
There is reason to be cautious about Archer-Daniels-Midland, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 9.0% that they were earning five years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Archer-Daniels-Midland becoming one if things continue as they have.
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. But investors must be expecting an improvement of sorts because over the last five yearsthe stock has delivered a respectable 78% return. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.
Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for Archer-Daniels-Midland (of which 2 are a bit unpleasant!) that you should know about.
While Archer-Daniels-Midland 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. 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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