Returns On Capital Signal Difficult Times Ahead For Xinjiang Youhao(Group)Co.Ltd (SHSE:600778)

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? A business that's potentially in decline often shows two trends, a return on capital employed (ROCE) that's declining, and a base of capital employed that's also declining. This combination can tell you that not only is the company investing less, it's earning less on what it does invest. So after we looked into Xinjiang Youhao(Group)Co.Ltd (SHSE:600778), the trends above didn't look too great.

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. To calculate this metric for Xinjiang Youhao(Group)Co.Ltd, this is the formula:

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

0.035 = CN¥39m ÷ (CN¥3.8b - CN¥2.7b) (Based on the trailing twelve months to September 2024).

Therefore, Xinjiang Youhao(Group)Co.Ltd has an ROCE of 3.5%. On its own that's a low return on capital but it's in line with the industry's average returns of 3.9%.

Check out our latest analysis for Xinjiang Youhao(Group)Co.Ltd

Historical performance is a great place to start when researching a stock so above you can see the gauge for Xinjiang Youhao(Group)Co.Ltd'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 Xinjiang Youhao(Group)Co.Ltd.

What Does the ROCE Trend For Xinjiang Youhao(Group)Co.Ltd Tell Us?

The trend of returns that Xinjiang Youhao(Group)Co.Ltd is generating are raising some concerns. To be more specific, today's ROCE was 8.8% five years ago but has since fallen to 3.5%. In addition to that, Xinjiang Youhao(Group)Co.Ltd is now employing 42% less capital than it was five years ago. The fact that both are shrinking is an indication that the business is going through some tough times. If these underlying trends continue, we wouldn't be too optimistic going forward.

On a separate but related note, it's important to know that Xinjiang Youhao(Group)Co.Ltd has a current liabilities to total assets ratio of 71%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Key Takeaway

In summary, it's unfortunate that Xinjiang Youhao(Group)Co.Ltd is shrinking its capital base and also generating lower returns. Despite the concerning underlying trends, the stock has actually gained 14% over the last five years, so it might be that the investors are expecting the trends to reverse. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

On a separate note, we've found 1 warning sign for Xinjiang Youhao(Group)Co.Ltd you'll probably want to know about.

While Xinjiang Youhao(Group)Co.Ltd may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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.