Gullewa (ASX:GUL) Could Be Struggling To Allocate Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. In light of that, when we looked at Gullewa (ASX:GUL) and its ROCE trend, we weren't exactly thrilled.

Understanding Return On Capital Employed (ROCE)

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for Gullewa, this is the formula:

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

0.14 = AU$2.5m ÷ (AU$18m - AU$256k) (Based on the trailing twelve months to December 2023).

Therefore, Gullewa has an ROCE of 14%. On its own, that's a standard return, however it's much better than the 11% generated by the Metals and Mining industry.

See our latest analysis for Gullewa

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'd like to look at how Gullewa has performed in the past in other metrics, you can view this free graph of Gullewa's past earnings, revenue and cash flow.

How Are Returns Trending?

The trend of ROCE doesn't look fantastic because it's fallen from 19% five years ago, while the business's capital employed increased by 130%. That being said, Gullewa raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. Gullewa probably hasn't received a full year of earnings yet from the new funds it raised, so these figures should be taken with a grain of salt.

The Key Takeaway

While returns have fallen for Gullewa in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And the stock has done incredibly well with a 113% return over the last five years, so long term investors are no doubt ecstatic with that result. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for Gullewa (of which 2 shouldn't be ignored!) that you should know about.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.