Returns On Capital At Gem Diamonds (LON:GEMD) Paint A Concerning Picture

To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. So after we looked into Gem Diamonds (LON:GEMD), the trends above didn't look too great.

Return On Capital Employed (ROCE): What Is It?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Gem Diamonds is:

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

0.04 = US$13m ÷ (US$383m - US$46m) (Based on the trailing twelve months to June 2024).

Thus, Gem Diamonds has an ROCE of 4.0%. Ultimately, that's a low return and it under-performs the Metals and Mining industry average of 8.6%.

View our latest analysis for Gem Diamonds

In the above chart we have measured Gem Diamonds' 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 analyst report for Gem Diamonds .

So How Is Gem Diamonds' ROCE Trending?

We are a bit worried about the trend of returns on capital at Gem Diamonds. About five years ago, returns on capital were 8.2%, however they're now substantially lower than that as we saw above. Meanwhile, capital employed in the business has stayed roughly the flat over the period. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. If these trends continue, we wouldn't expect Gem Diamonds to turn into a multi-bagger.

The Bottom Line On Gem Diamonds' ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. Unsurprisingly then, the stock has dived 83% over the last five years, so investors are recognizing these changes and don't like the company's prospects. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

Like most companies, Gem Diamonds does come with some risks, and we've found 2 warning signs that you should be aware of.

While Gem Diamonds 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.