Incitec Pivot (ASX:IPL) Will Be Hoping To Turn Its Returns On Capital Around
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. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. On that note, looking into Incitec Pivot (ASX:IPL), we weren't too upbeat about how things were going.
What is 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 Incitec Pivot is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.039 = AU$309m ÷ (AU$9.3b - AU$1.3b) (Based on the trailing twelve months to September 2020).
Thus, Incitec Pivot has an ROCE of 3.9%. Ultimately, that's a low return and it under-performs the Chemicals industry average of 11%.
Check out our latest analysis for Incitec Pivot
Above you can see how the current ROCE for Incitec Pivot 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 Incitec Pivot here for free.
What Can We Tell From Incitec Pivot's ROCE Trend?
We are a bit worried about the trend of returns on capital at Incitec Pivot. Unfortunately the returns on capital have diminished from the 7.3% that they were earning five years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Incitec Pivot becoming one if things continue as they have.
Our Take On Incitec Pivot's ROCE
In summary, it's unfortunate that Incitec Pivot is generating lower returns from the same amount of capital. And, the stock has remained flat over the last five years, so investors don't seem too impressed either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.
On a separate note, we've found 2 warning signs for Incitec Pivot you'll probably want to know about.
While Incitec Pivot 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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