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 indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. So after glancing at the trends within Zhejiang Yonggui Electric Equipment (SZSE:300351), we weren't too hopeful.

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 Zhejiang Yonggui Electric Equipment:

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

0.031 = CN¥74m ÷ (CN¥3.0b - CN¥547m) (Based on the trailing twelve months to September 2023).

Thus, Zhejiang Yonggui Electric Equipment has an ROCE of 3.1%. In absolute terms, that's a low return and it also under-performs the Electrical industry average of 6.3%.

Check out our latest analysis for Zhejiang Yonggui Electric Equipment

In the above chart we have measured Zhejiang Yonggui Electric Equipment'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 Zhejiang Yonggui Electric Equipment.

The Trend Of ROCE

In terms of Zhejiang Yonggui Electric Equipment's historical ROCE trend, it isn't fantastic. The company used to generate 5.6% on its capital five years ago but it has since fallen noticeably. In addition to that, Zhejiang Yonggui Electric Equipment is now employing 21% less capital than it was five years ago. When you see both ROCE and capital employed diminishing, it can often be a sign of a mature and shrinking business that might be in structural decline. Typically businesses that exhibit these characteristics aren't the ones that tend to multiply over the long term, because statistically speaking, they've already gone through the growth phase of their life cycle.

The Bottom Line On Zhejiang Yonggui Electric Equipment's ROCE

To see Zhejiang Yonggui Electric Equipment reducing the capital employed in the business in tandem with diminishing returns, is concerning. Since the stock has skyrocketed 128% over the last five years, it looks like investors have high expectations of the stock. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

On a separate note, we've found 1 warning sign for Zhejiang Yonggui Electric Equipment you'll probably want to know about.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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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.