Be Wary Of TI Fluid Systems (LON:TIFS) And Its Returns On Capital

When we're researching a company, it's sometimes hard to find the warning signs, but there are some financial metrics that can help spot trouble early. 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. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. On that note, looking into TI Fluid Systems (LON:TIFS), we weren't too upbeat about how things were going.

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 TI Fluid Systems, this is the formula:

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

0.073 = €151m ÷ (€2.8b - €709m) (Based on the trailing twelve months to June 2023).

So, TI Fluid Systems has an ROCE of 7.3%. In absolute terms, that's a low return and it also under-performs the Auto Components industry average of 9.4%.

View our latest analysis for TI Fluid Systems

In the above chart we have measured TI Fluid Systems' prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What The Trend Of ROCE Can Tell Us

The trend of returns that TI Fluid Systems is generating are raising some concerns. Unfortunately, returns have declined substantially over the last five years to the 7.3% we see today. On top of that, the business is utilizing 21% less capital within its operations. 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 Key Takeaway

To see TI Fluid Systems reducing the capital employed in the business in tandem with diminishing returns, is concerning. Investors haven't taken kindly to these developments, since the stock has declined 29% from where it was five years ago. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

If you want to continue researching TI Fluid Systems, you might be interested to know about the 1 warning sign that our analysis has discovered.

While TI Fluid Systems 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.

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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.