Returns On Capital Signal Difficult Times Ahead For Zytronic (LON:ZYT)

If you're looking at a mature business that's past the growth phase, what are some of the underlying trends that pop up? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. This reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. So after we looked into Zytronic (LON:ZYT), the trends above didn't look too great.

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. The formula for this calculation on Zytronic is:

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

0.044 = UK£695k ÷ (UK£17m - UK£1.7m) (Based on the trailing twelve months to September 2022).

Therefore, Zytronic has an ROCE of 4.4%. In absolute terms, that's a low return and it also under-performs the Electronic industry average of 10%.

Check out our latest analysis for Zytronic

In the above chart we have measured Zytronic's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Zytronic.

How Are Returns Trending?

The trend of ROCE at Zytronic is showing some signs of weakness. To be more specific, today's ROCE was 20% five years ago but has since fallen to 4.4%. In addition to that, Zytronic is now employing 43% 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.

In Conclusion...

To see Zytronic 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 65% from where it was five years ago. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

One final note, you should learn about the 2 warning signs we've spotted with Zytronic (including 1 which makes us a bit uncomfortable) .

While Zytronic 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.