EDAG Engineering Group (ETR:ED4) Is Reinvesting At Lower Rates Of Return
What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after briefly looking over the numbers, we don't think EDAG Engineering Group (ETR:ED4) has the makings of a multi-bagger going forward, but let's have a look at why that may be.
What Is 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. The formula for this calculation on EDAG Engineering Group is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.074 = €36m ÷ (€682m - €192m) (Based on the trailing twelve months to September 2023).
So, EDAG Engineering Group has an ROCE of 7.4%. Ultimately, that's a low return and it under-performs the Auto Components industry average of 11%.
See our latest analysis for EDAG Engineering Group
In the above chart we have measured EDAG Engineering Group's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering EDAG Engineering Group for free.
What The Trend Of ROCE Can Tell Us
When we looked at the ROCE trend at EDAG Engineering Group, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 7.4% from 13% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.
On a related note, EDAG Engineering Group has decreased its current liabilities to 28% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.
What We Can Learn From EDAG Engineering Group's ROCE
In summary, EDAG Engineering Group is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Additionally, the stock's total return to shareholders over the last five years has been flat, which isn't too surprising. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.
Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for EDAG Engineering Group (of which 2 shouldn't be ignored!) that you should know about.
While EDAG Engineering Group 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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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.
