Is Metro Performance Glass (NZSE:MPG) Using Capital Effectively?

To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount of capital employed. This combination can tell you that not only is the company investing less, it's earning less on what it does invest. On that note, looking into Metro Performance Glass (NZSE:MPG), we weren't too upbeat about how things were going.

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

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 Metro Performance Glass:

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

0.10 = NZ$15m ÷ (NZ$243m - NZ$96m) (Based on the trailing twelve months to September 2020).

So, Metro Performance Glass has an ROCE of 10%. That's a pretty standard return and it's in line with the industry average of 9.9%.

View our latest analysis for Metro Performance Glass

Above you can see how the current ROCE for Metro Performance Glass compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What Does the ROCE Trend For Metro Performance Glass Tell Us?

We are a bit anxious about the trends of ROCE at Metro Performance Glass. To be more specific, today's ROCE was 14% five years ago but has since fallen to 10%. What's equally concerning is that the amount of capital deployed in the business has shrunk by 27% over that same period. When you see both ROCE and capital employed diminishing, it can often be a sign of a mature and shrinking business that might be in structural decline. If these underlying trends continue, we wouldn't be too optimistic going forward.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 40%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 10%. Keep an eye on this ratio, because the business could encounter some new risks if this metric gets too high.

The Bottom Line

To see Metro Performance Glass reducing the capital employed in the business in tandem with diminishing returns, is concerning. This could explain why the stock has sunk a total of 71% in the last five years. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

One more thing to note, we've identified 1 warning sign with Metro Performance Glass and understanding this should be part of your investment process.

While Metro Performance Glass 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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