Goodyear Tire & Rubber (NASDAQ:GT) Is Finding It Tricky To Allocate Its Capital

By
Simply Wall St
Published
June 08, 2021
NasdaqGS:GT
Source: Shutterstock

When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. 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 Goodyear Tire & Rubber (NASDAQ:GT), we've spotted some signs that it could be struggling, so let's investigate.

What is Return On Capital Employed (ROCE)?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Goodyear Tire & Rubber, this is the formula:

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

0.004 = US$45m ÷ (US$17b - US$5.3b) (Based on the trailing twelve months to March 2021).

So, Goodyear Tire & Rubber has an ROCE of 0.4%. In absolute terms, that's a low return and it also under-performs the Auto Components industry average of 11%.

See our latest analysis for Goodyear Tire & Rubber

roce
NasdaqGS:GT Return on Capital Employed June 8th 2021

In the above chart we have measured Goodyear Tire & Rubber'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 Goodyear Tire & Rubber here for free.

So How Is Goodyear Tire & Rubber's ROCE Trending?

In terms of Goodyear Tire & Rubber's historical ROCE movements, the trend doesn't inspire confidence. To be more specific, the ROCE was 14% five years ago, but since then it has dropped noticeably. 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 Goodyear Tire & Rubber to turn into a multi-bagger.

The Bottom Line On Goodyear Tire & Rubber's ROCE

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. It should come as no surprise then that the stock has fallen 20% over the last five years, so it looks like investors are recognizing these changes. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

One more thing to note, we've identified 2 warning signs with Goodyear Tire & Rubber and understanding these should be part of your investment process.

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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