Be Wary Of Darling Ingredients (NYSE:DAR) And Its Returns On Capital

When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. 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 reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. Having said that, after a brief look, Darling Ingredients (NYSE:DAR) we aren't filled with optimism, but let's investigate further.

What is 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 Darling Ingredients:

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

0.023 = US$110m ÷ (US$5.3b - US$606m) (Based on the trailing twelve months to June 2020).

Thus, Darling Ingredients has an ROCE of 2.3%. Ultimately, that's a low return and it under-performs the Food industry average of 8.6%.

View our latest analysis for Darling Ingredients

In the above chart we have measured Darling Ingredients' 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 Darling Ingredients here for free.

What Does the ROCE Trend For Darling Ingredients Tell Us?

There is reason to be cautious about Darling Ingredients, given the returns are trending downwards. To be more specific, the ROCE was 3.9% five years ago, but since then it has dropped noticeably. 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. If these trends continue, we wouldn't expect Darling Ingredients to turn into a multi-bagger.

What We Can Learn From Darling Ingredients' ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. The market must be rosy on the stock's future because even though the underlying trends aren't too encouraging, the stock has soared 318%. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

If you want to know some of the risks facing Darling Ingredients we've found 3 warning signs (1 shouldn't be ignored!) that you should be aware of before investing here.

While Darling Ingredients isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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