Sydney Airport (ASX:SYD) Is Finding It Tricky To Allocate Its Capital

If you're looking at a mature business that's past the growth phase, what are some of the underlying trends that pop up? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. In light of that, from a first glance at Sydney Airport (ASX:SYD), we've spotted some signs that it could be struggling, so let's investigate.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for Sydney Airport:

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

0.0057 = AU$68m ÷ (AU$13b - AU$1.1b) (Based on the trailing twelve months to December 2020).

So, Sydney Airport has an ROCE of 0.6%. Ultimately, that's a low return and it under-performs the Infrastructure industry average of 7.9%.

See our latest analysis for Sydney Airport

roce

Above you can see how the current ROCE for Sydney Airport 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 Sydney Airport here for free.

What Does the ROCE Trend For Sydney Airport Tell Us?

There is reason to be cautious about Sydney Airport, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 6.0% that they were earning five years ago. 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 Sydney Airport to turn into a multi-bagger.

The Bottom Line

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. In spite of that, the stock has delivered a 7.0% return to shareholders who held over the last five years. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

Sydney Airport does have some risks, we noticed 2 warning signs (and 1 which shouldn't be ignored) we think you should know about.

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.

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