The Returns On Capital At Formosa Chemicals & Fibre (TPE:1326) Don't Inspire Confidence

What financial metrics can indicate to us that a company is maturing or even in decline? 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 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 Formosa Chemicals & Fibre (TPE:1326), we've spotted some signs that it could be struggling, so let's investigate.

Understanding Return On Capital Employed (ROCE)

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. Analysts use this formula to calculate it for Formosa Chemicals & Fibre:

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

0.017 = NT$7.0b ÷ (NT$488b - NT$76b) (Based on the trailing twelve months to September 2020).

Thus, Formosa Chemicals & Fibre has an ROCE of 1.7%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 6.7%.

View our latest analysis for Formosa Chemicals & Fibre

In the above chart we have measured Formosa Chemicals & Fibre'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 Formosa Chemicals & Fibre here for free.

How Are Returns Trending?

There is reason to be cautious about Formosa Chemicals & Fibre, given the returns are trending downwards. To be more specific, the ROCE was 2.7% five years ago, but since then it has dropped noticeably. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. 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. If these trends continue, we wouldn't expect Formosa Chemicals & Fibre to turn into a multi-bagger.

Our Take On Formosa Chemicals & Fibre's ROCE

In summary, it's unfortunate that Formosa Chemicals & Fibre is generating lower returns from the same amount of capital. However the stock has delivered a 48% 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.

On a final note, we've found 2 warning signs for Formosa Chemicals & Fibre that we think you should be aware of.

While Formosa Chemicals & Fibre isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

When trading Formosa Chemicals & Fibre or any other investment, use the platform considered by many to be the Professional's Gateway to the Worlds Market, Interactive Brokers. You get the lowest-cost* trading on stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

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