When we're researching a company, it's sometimes hard to find the warning signs, but there are some financial metrics that can help spot trouble early. 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. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. So after we looked into Shanxi Guoxin Energy (SHSE:600617), the trends above didn't look too great.
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. The formula for this calculation on Shanxi Guoxin Energy is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.029 = CN¥507m ÷ (CN¥29b - CN¥12b) (Based on the trailing twelve months to September 2023).
Thus, Shanxi Guoxin Energy has an ROCE of 2.9%. In absolute terms, that's a low return and it also under-performs the Oil and Gas industry average of 12%.
While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Shanxi Guoxin Energy's past further, check out this free graph covering Shanxi Guoxin Energy's past earnings, revenue and cash flow.
So How Is Shanxi Guoxin Energy's ROCE Trending?
In terms of Shanxi Guoxin Energy's historical ROCE movements, the trend doesn't inspire confidence. To be more specific, the ROCE was 3.7% 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 Shanxi Guoxin Energy to turn into a multi-bagger.
On a side note, Shanxi Guoxin Energy's current liabilities are still rather high at 40% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
The Key Takeaway
In summary, it's unfortunate that Shanxi Guoxin Energy is generating lower returns from the same amount of capital. Long term shareholders who've owned the stock over the last five years have experienced a 48% depreciation in their investment, so it appears the market might not like these trends either. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.
If you'd like to know more about Shanxi Guoxin Energy, we've spotted 2 warning signs, and 1 of them is concerning.
While Shanxi Guoxin Energy 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.