Wuxi Lihu (SZSE:300694) Could Be Struggling To Allocate Capital

What underlying fundamental trends can indicate that a company might be in decline? When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that's often how a mature business shows signs of aging. 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. And from a first read, things don't look too good at Wuxi Lihu (SZSE:300694), so let's see why.

Understanding Return On Capital Employed (ROCE)

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Wuxi Lihu, this is the formula:

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

0.059 = CN¥83m ÷ (CN¥2.2b - CN¥756m) (Based on the trailing twelve months to March 2024).

Thus, Wuxi Lihu has an ROCE of 5.9%. On its own, that's a low figure but it's around the 6.9% average generated by the Auto Components industry.

Check out our latest analysis for Wuxi Lihu

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

What Can We Tell From Wuxi Lihu's ROCE Trend?

We are a bit worried about the trend of returns on capital at Wuxi Lihu. To be more specific, the ROCE was 10% five years ago, but since then it has dropped noticeably. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Wuxi Lihu becoming one if things continue as they have.

The Bottom Line

In summary, it's unfortunate that Wuxi Lihu is generating lower returns from the same amount of capital. It should come as no surprise then that the stock has fallen 56% over the last five years, so it looks like investors are recognizing these changes. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

On a separate note, we've found 1 warning sign for Wuxi Lihu you'll probably want to know about.

While Wuxi Lihu 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.