- Oops!Something went wrong.Please try again later.
What underlying fundamental trends can indicate that a company might be in decline? Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount of capital employed. This reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. So after we looked into CF Industries Holdings (NYSE:CF), the trends above didn't look too great.
Understanding Return On Capital Employed (ROCE)
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on CF Industries Holdings is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.059 = US$665m ÷ (US$12b - US$681m) (Based on the trailing twelve months to September 2020).
So, CF Industries Holdings has an ROCE of 5.9%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 7.5%.
In the above chart we have measured CF Industries Holdings' 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 CF Industries Holdings here for free.
What Can We Tell From CF Industries Holdings' ROCE Trend?
We are a bit worried about the trend of returns on capital at CF Industries Holdings. To be more specific, the ROCE was 12% five years ago, but since then it has dropped noticeably. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. If these trends continue, we wouldn't expect CF Industries Holdings to turn into a multi-bagger.
Our Take On CF Industries Holdings' ROCE
In summary, it's unfortunate that CF Industries Holdings is generating lower returns from the same amount of capital. Yet despite these concerning fundamentals, the stock has performed strongly with a 65% return over the last five years, so investors appear very optimistic. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.
CF Industries Holdings does have some risks though, and we've spotted 4 warning signs for CF Industries Holdings that you might be interested in.
For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.