Capital Allocation Trends At GCL New Energy Holdings (HKG:451) Aren't Ideal

When researching a stock for investment, what can tell us that the company is in decline? 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 glancing at the trends within GCL New Energy Holdings (HKG:451), we weren't too hopeful.

What Is Return On Capital Employed (ROCE)?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for GCL New Energy Holdings:

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

0.0093 = CN¥100m ÷ (CN¥14b - CN¥2.9b) (Based on the trailing twelve months to June 2022).

Thus, GCL New Energy Holdings has an ROCE of 0.9%. Ultimately, that's a low return and it under-performs the Renewable Energy industry average of 6.6%.

See our latest analysis for GCL New Energy Holdings

In the above chart we have measured GCL New Energy Holdings' 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 GCL New Energy Holdings.

What The Trend Of ROCE Can Tell Us

In terms of GCL New Energy Holdings' historical ROCE trend, it isn't fantastic. To be more specific, today's ROCE was 6.9% five years ago but has since fallen to 0.9%. On top of that, the business is utilizing 58% less capital within its operations. 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 side note, GCL New Energy Holdings has done well to pay down its current liabilities to 21% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line On GCL New Energy Holdings' ROCE

In summary, it's unfortunate that GCL New Energy Holdings is shrinking its capital base and also generating lower returns. We expect this has contributed to the stock plummeting 89% during the last five years. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

One final note, you should learn about the 4 warning signs we've spotted with GCL New Energy Holdings (including 1 which doesn't sit too well with us) .

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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.