Ainsworth Game Technology (ASX:AGI) Could Be Struggling To Allocate 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? 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. In light of that, from a first glance at Ainsworth Game Technology (ASX:AGI), we've spotted some signs that it could be struggling, so let's investigate.

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 Ainsworth Game Technology:

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

0.036 = AU$12m ÷ (AU$407m - AU$78m) (Based on the trailing twelve months to June 2022).

Therefore, Ainsworth Game Technology has an ROCE of 3.6%. In absolute terms, that's a low return and it also under-performs the Hospitality industry average of 9.5%.

Check out the opportunities and risks within the AU Hospitality industry.

In the above chart we have measured Ainsworth Game Technology's 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 Ainsworth Game Technology here for free.

What The Trend Of ROCE Can Tell Us

In terms of Ainsworth Game Technology's historical ROCE trend, it isn't fantastic. Unfortunately, returns have declined substantially over the last five years to the 3.6% we see today. What's equally concerning is that the amount of capital deployed in the business has shrunk by 21% over that same period. The fact that both are shrinking is an indication that the business is going through some tough times. 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.

Our Take On Ainsworth Game Technology's ROCE

In summary, it's unfortunate that Ainsworth Game Technology is shrinking its capital base and also generating lower returns. Investors haven't taken kindly to these developments, since the stock has declined 60% from where it was five years ago. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

On a final note, we've found 1 warning sign for Ainsworth Game Technology that we think you should be aware of.

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

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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.