Be Wary Of Watos Corea (KOSDAQ:079000) And Its Returns On Capital

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. On that note, looking into Watos Corea (KOSDAQ:079000), we weren't too upbeat about how things were going.

Return On Capital Employed (ROCE): What is it?

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. To calculate this metric for Watos Corea, this is the formula:

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

0.0021 = ₩157m ÷ (₩77b - ₩1.4b) (Based on the trailing twelve months to December 2020).

So, Watos Corea has an ROCE of 0.2%. Ultimately, that's a low return and it under-performs the Building industry average of 4.3%.

View our latest analysis for Watos Corea

Historical performance is a great place to start when researching a stock so above you can see the gauge for Watos Corea's ROCE against it's prior returns. If you're interested in investigating Watos Corea's past further, check out this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

We are a bit worried about the trend of returns on capital at Watos Corea. About five years ago, returns on capital were 6.2%, 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. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Watos Corea becoming one if things continue as they have.

In Conclusion...

In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. Despite the concerning underlying trends, the stock has actually gained 3.5% over the last five years, so it might be that the investors are expecting the trends to reverse. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

If you want to know some of the risks facing Watos Corea we've found 3 warning signs (1 doesn't sit too well with us!) that you should be aware of before investing here.

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.

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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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