What underlying fundamental trends can indicate that a company might be in decline? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. This indicates the company is producing less profit from its investments and its total assets are decreasing. In light of that, from a first glance at Prime Media Group (ASX:PRT), we've spotted some signs that it could be struggling, so let's investigate.
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 Prime Media Group, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.22 = AU$18m ÷ (AU$106m - AU$22m) (Based on the trailing twelve months to June 2021).
So, Prime Media Group has an ROCE of 22%. In absolute terms that's a great return and it's even better than the Media industry average of 6.7%.
Above you can see how the current ROCE for Prime Media Group compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
What Can We Tell From Prime Media Group's ROCE Trend?
In terms of Prime Media Group's historical ROCE trend, it isn't fantastic. The company used to generate 34% on its capital five years ago but it has since fallen noticeably. In addition to that, Prime Media Group is now employing 38% 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
In short, lower returns and decreasing amounts capital employed in the business doesn't fill us with confidence. However the stock has delivered a 59% return to shareholders over the last five years, so investors might be expecting the trends to turn around. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.
Prime Media Group does have some risks though, and we've spotted 3 warning signs for Prime Media Group that you might be interested in.
High returns are a key ingredient to strong performance, so check out our free list ofstocks earning high returns on equity with solid balance sheets.
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.
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