Long Yuan Construction Group (SHSE:600491) Could Be Struggling To Allocate Capital

What financial metrics can indicate to us that a company is maturing or even 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. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. Having said that, after a brief look, Long Yuan Construction Group (SHSE:600491) we aren't filled with optimism, but let's investigate further.

What Is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Long Yuan Construction Group, this is the formula:

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

0.04 = CN¥1.2b ÷ (CN¥56b - CN¥26b) (Based on the trailing twelve months to September 2024).

So, Long Yuan Construction Group has an ROCE of 4.0%. Ultimately, that's a low return and it under-performs the Construction industry average of 6.1%.

Check out our latest analysis for Long Yuan Construction Group

Historical performance is a great place to start when researching a stock so above you can see the gauge for Long Yuan Construction Group's ROCE against it's prior returns. If you want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Long Yuan Construction Group.

The Trend Of ROCE

There is reason to be cautious about Long Yuan Construction Group, given the returns are trending downwards. To be more specific, the ROCE was 5.0% five years ago, but since then it has dropped noticeably. 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. If these trends continue, we wouldn't expect Long Yuan Construction Group to turn into a multi-bagger.

On a separate but related note, it's important to know that Long Yuan Construction Group has a current liabilities to total assets ratio of 48%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On Long Yuan Construction Group's ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. It should come as no surprise then that the stock has fallen 49% over the last five years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

If you want to continue researching Long Yuan Construction Group, you might be interested to know about the 2 warning signs that our analysis has discovered.

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.

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.