Yahoo Finance The Returns On Capital At Card Factory (LON:CARD) Don't Inspire Confidence
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. This indicates the company is producing less profit from its investments and its total assets are decreasing. So after we looked into Card Factory (LON:CARD), the trends above didn't look too great.
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. Analysts use this formula to calculate it for Card Factory:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.078 = UK£30m ÷ (UK£536m - UK£152m) (Based on the trailing twelve months to January 2022).
Therefore, Card Factory has an ROCE of 7.8%. Ultimately, that's a low return and it under-performs the Specialty Retail industry average of 17%.
View our latest analysis for Card Factory
In the above chart we have measured Card Factory's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Card Factory.
The Trend Of ROCE
There is reason to be cautious about Card Factory, given the returns are trending downwards. About five years ago, returns on capital were 22%, however they're now substantially lower than that as we saw above. Meanwhile, capital employed in the business has stayed roughly the flat over the period. 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 Card Factory becoming one if things continue as they have.
On a side note, Card Factory's current liabilities have increased over the last five years to 28% of total assets, effectively distorting the ROCE to some degree. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.
The Key Takeaway
All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. This could explain why the stock has sunk a total of 75% in the last five years. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.
One more thing, we've spotted 1 warning sign facing Card Factory that you might find interesting.
While Card Factory 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.
