Varex Imaging (NASDAQ:VREX) Is Finding It Tricky To Allocate Its Capital

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? 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. Basically the company is earning less on its investments and it is also reducing its total assets. And from a first read, things don't look too good at Varex Imaging (NASDAQ:VREX), so let's see why.

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. The formula for this calculation on Varex Imaging is:

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

0.031 = US$32m ÷ (US$1.2b - US$196m) (Based on the trailing twelve months to September 2024).

Thus, Varex Imaging has an ROCE of 3.1%. Ultimately, that's a low return and it under-performs the Medical Equipment industry average of 9.6%.

Check out our latest analysis for Varex Imaging

In the above chart we have measured Varex Imaging'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 Varex Imaging for free.

How Are Returns Trending?

We are a bit worried about the trend of returns on capital at Varex Imaging. To be more specific, the ROCE was 7.5% 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. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. If these trends continue, we wouldn't expect Varex Imaging to turn into a multi-bagger.

The Bottom Line

In summary, it's unfortunate that Varex Imaging is generating lower returns from the same amount of capital. It should come as no surprise then that the stock has fallen 53% over the last five years, so it looks like investors are recognizing these changes. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

Varex Imaging does have some risks though, and we've spotted 1 warning sign for Varex Imaging that you might be interested in.

While Varex Imaging 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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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.