To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that's often how a mature business shows signs of aging. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. So after glancing at the trends within Unitech Electronics (GTSM:3652), we weren't too hopeful.
What is 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. To calculate this metric for Unitech Electronics, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.013 = NT$15m ÷ (NT$1.6b - NT$473m) (Based on the trailing twelve months to September 2020).
Thus, Unitech Electronics has an ROCE of 1.3%. Ultimately, that's a low return and it under-performs the Electronic industry average of 11%.
Historical performance is a great place to start when researching a stock so above you can see the gauge for Unitech Electronics' ROCE against it's prior returns. If you'd like to look at how Unitech Electronics has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
How Are Returns Trending?
We are a bit worried about the trend of returns on capital at Unitech Electronics. Unfortunately the returns on capital have diminished from the 2.0% that they were earning five years ago. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. If these trends continue, we wouldn't expect Unitech Electronics to turn into a multi-bagger.
All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. But investors must be expecting an improvement of sorts because over the last five yearsthe stock has delivered a respectable 45% return. 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 found 2 warning signs for Unitech Electronics (1 is significant) you should be aware of.
While Unitech Electronics may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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