Rechi Precision (TWSE:4532) Could Be Struggling To Allocate Capital

What financial metrics can indicate to us that a company is maturing or even in decline? 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. In light of that, from a first glance at Rechi Precision (TWSE:4532), we've spotted some signs that it could be struggling, so let's investigate.

What Is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Rechi Precision, this is the formula:

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

0.083 = NT$1.0b ÷ (NT$26b - NT$14b) (Based on the trailing twelve months to March 2024).

Thus, Rechi Precision has an ROCE of 8.3%. Even though it's in line with the industry average of 8.4%, it's still a low return by itself.

See our latest analysis for Rechi Precision

Above you can see how the current ROCE for Rechi Precision compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Rechi Precision .

What Does the ROCE Trend For Rechi Precision Tell Us?

In terms of Rechi Precision's historical ROCE movements, the trend doesn't inspire confidence. Unfortunately the returns on capital have diminished from the 10% that they were earning five years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Rechi Precision becoming one if things continue as they have.

Another thing to note, Rechi Precision has a high ratio of current liabilities to total assets of 52%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

Our Take On Rechi Precision's ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. However the stock has delivered a 62% return to shareholders over the last five years, so investors might be expecting the trends to turn around. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

If you'd like to know more about Rechi Precision, we've spotted 2 warning signs, and 1 of them is a bit concerning.

While Rechi Precision 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com