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Here's What's Concerning About Canadian Utilities' (TSE:CU) Returns On Capital

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·2 min read
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To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. 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. Basically the company is earning less on its investments and it is also reducing its total assets. On that note, looking into Canadian Utilities (TSE:CU), we weren't too upbeat about how things were going.

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. The formula for this calculation on Canadian Utilities is:

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

0.05 = CA$1.0b ÷ (CA$21b - CA$1.3b) (Based on the trailing twelve months to March 2022).

Therefore, Canadian Utilities has an ROCE of 5.0%. Even though it's in line with the industry average of 4.7%, it's still a low return by itself.

View our latest analysis for Canadian Utilities

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Above you can see how the current ROCE for Canadian Utilities 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 Canadian Utilities here for free.

The Trend Of ROCE

In terms of Canadian Utilities' historical ROCE movements, the trend doesn't inspire confidence. To be more specific, the ROCE was 6.8% five years ago, but since then it has dropped noticeably. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. 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. If these trends continue, we wouldn't expect Canadian Utilities to turn into a multi-bagger.

What We Can Learn From Canadian Utilities' 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. Investors must expect better things on the horizon though because the stock has risen 23% in the last five years. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.

If you'd like to know more about Canadian Utilities, we've spotted 3 warning signs, and 1 of them makes us a bit uncomfortable.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.