Guangdong Ellington Electronics TechnologyLtd (SHSE:603328) May Have Issues Allocating Its Capital

When researching a stock for investment, what can tell us that the company is in decline? Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount of capital employed. 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, Guangdong Ellington Electronics TechnologyLtd (SHSE:603328) we aren't filled with optimism, but let's investigate further.

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 Guangdong Ellington Electronics TechnologyLtd, this is the formula:

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

0.11 = CN¥427m ÷ (CN¥5.3b - CN¥1.3b) (Based on the trailing twelve months to June 2024).

Therefore, Guangdong Ellington Electronics TechnologyLtd has an ROCE of 11%. In absolute terms, that's a satisfactory return, but compared to the Electronic industry average of 5.4% it's much better.

See our latest analysis for Guangdong Ellington Electronics TechnologyLtd

Historical performance is a great place to start when researching a stock so above you can see the gauge for Guangdong Ellington Electronics TechnologyLtd's ROCE against it's prior returns. If you'd like to look at how Guangdong Ellington Electronics TechnologyLtd has performed in the past in other metrics, you can view this free graph of Guangdong Ellington Electronics TechnologyLtd's past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

There is reason to be cautious about Guangdong Ellington Electronics TechnologyLtd, given the returns are trending downwards. To be more specific, the ROCE was 14% 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 Guangdong Ellington Electronics TechnologyLtd to turn into a multi-bagger.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 25%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 11%. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.

In Conclusion...

In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. And long term shareholders have watched their investments stay flat over the last five years. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 2 warning signs for Guangdong Ellington Electronics TechnologyLtd (of which 1 is concerning!) that you should know about.

While Guangdong Ellington Electronics TechnologyLtd 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.