Here's What's Concerning About Kimberly-Clark's (NYSE:KMB) Returns On Capital

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. And from a first read, things don't look too good at Kimberly-Clark (NYSE:KMB), so let's see why.

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. The formula for this calculation on Kimberly-Clark is:

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

0.24 = US$2.6b ÷ (US$18b - US$7.2b) (Based on the trailing twelve months to September 2022).

Therefore, Kimberly-Clark has an ROCE of 24%. In absolute terms that's a great return and it's even better than the Household Products industry average of 13%.

Our analysis indicates that KMB is potentially undervalued!

Above you can see how the current ROCE for Kimberly-Clark 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 Kimberly-Clark here for free.

How Are Returns Trending?

There is reason to be cautious about Kimberly-Clark, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 35% that they were earning five years ago. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. 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 Kimberly-Clark becoming one if things continue as they have.

Another thing to note, Kimberly-Clark has a high ratio of current liabilities to total assets of 40%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

What We Can Learn From Kimberly-Clark's 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. In spite of that, the stock has delivered a 31% return to shareholders who held over the last five years. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

One more thing to note, we've identified 1 warning sign with Kimberly-Clark and understanding it should be part of your investment process.

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.

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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.