What underlying fundamental trends can indicate that a company might be in decline? 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. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. Having said that, after a brief look, New East New Materials (SHSE:603110) we aren't filled with optimism, but let's investigate further.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for New East New Materials:

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

0.017 = CN¥12m ÷ (CN¥815m - CN¥133m) (Based on the trailing twelve months to September 2023).

Therefore, New East New Materials has an ROCE of 1.7%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 6.0%.

Historical performance is a great place to start when researching a stock so above you can see the gauge for New East New Materials' ROCE against it's prior returns. If you're interested in investigating New East New Materials' past further, check out this free graph covering New East New Materials' past earnings, revenue and cash flow.

What Does the ROCE Trend For New East New Materials Tell Us?

There is reason to be cautious about New East New Materials, given the returns are trending downwards. About five years ago, returns on capital were 5.0%, 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. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on New East New Materials becoming one if things continue as they have.

Our Take On New East New Materials' ROCE

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. Yet despite these concerning fundamentals, the stock has performed strongly with a 59% return over the last five years, so investors appear very optimistic. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

One more thing: We've identified 3 warning signs with New East New Materials (at least 2 which don't sit too well with us) , and understanding these would certainly be useful.

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

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.