Snail's (NASDAQ:SNAL) Returns On Capital Not Reflecting Well On The Business

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. And from a first read, things don't look too good at Snail (NASDAQ:SNAL), so let's see why.

Return On Capital Employed (ROCE): What Is It?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for Snail, this is the formula:

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

0.20 = US$4.5m ÷ (US$67m - US$44m) (Based on the trailing twelve months to September 2024).

Therefore, Snail has an ROCE of 20%. In absolute terms that's a great return and it's even better than the Entertainment industry average of 10%.

See our latest analysis for Snail

In the above chart we have measured Snail'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 Snail for free.

The Trend Of ROCE

The trend of ROCE at Snail is showing some signs of weakness. To be more specific, today's ROCE was 34% four years ago but has since fallen to 20%. What's equally concerning is that the amount of capital deployed in the business has shrunk by 59% over that same period. When you see both ROCE and capital employed diminishing, it can often be a sign of a mature and shrinking business that might be in structural decline. If these underlying trends continue, we wouldn't be too optimistic going forward.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 65%, which has impacted the ROCE. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. And with current liabilities at these levels, suppliers or short-term creditors are effectively funding a large part of the business, which can introduce some risks.

The Bottom Line On Snail's ROCE

In short, lower returns and decreasing amounts capital employed in the business doesn't fill us with confidence. Yet despite these concerning fundamentals, the stock has performed strongly with a 25% return over the last year, so investors appear very optimistic. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

Snail does come with some risks though, we found 2 warning signs in our investment analysis, and 1 of those is potentially serious...

If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning high returns on equity.

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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.