Nexen Tire's (KRX:002350) Returns On Capital Not Reflecting Well On The Business

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after briefly looking over the numbers, we don't think Nexen Tire (KRX:002350) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What is 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. Analysts use this formula to calculate it for Nexen Tire:

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

0.014 = ₩39b ÷ (₩3.5t - ₩767b) (Based on the trailing twelve months to December 2020).

Therefore, Nexen Tire has an ROCE of 1.4%. Ultimately, that's a low return and it under-performs the Auto Components industry average of 5.1%.

See our latest analysis for Nexen Tire

In the above chart we have measured Nexen Tire's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Nexen Tire here for free.

How Are Returns Trending?

When we looked at the ROCE trend at Nexen Tire, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 1.4% from 11% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

Our Take On Nexen Tire's ROCE

From the above analysis, we find it rather worrisome that returns on capital and sales for Nexen Tire have fallen, meanwhile the business is employing more capital than it was five years ago. Long term shareholders who've owned the stock over the last five years have experienced a 31% depreciation in their investment, so it appears the market might not like these trends either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

On a final note, we found 3 warning signs for Nexen Tire (1 is a bit unpleasant) you should be aware of.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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This article by Simply Wall St is general in nature. 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.
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