Returns On Capital Signal Difficult Times Ahead For SkyWater Technology (NASDAQ:SKYT)

What financial metrics can indicate to us that a company is maturing or even in decline? A business that's potentially in decline often shows two trends, a return on capital employed (ROCE) that's declining, and a base of capital employed that's also declining. This reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. Having said that, after a brief look, SkyWater Technology (NASDAQ:SKYT) we aren't filled with optimism, but let's investigate further.

What Is Return On Capital Employed (ROCE)?

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. Analysts use this formula to calculate it for SkyWater Technology:

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

0.0069 = US$1.1m ÷ (US$315m - US$160m) (Based on the trailing twelve months to September 2024).

Thus, SkyWater Technology has an ROCE of 0.7%. Ultimately, that's a low return and it under-performs the Semiconductor industry average of 8.6%.

View our latest analysis for SkyWater Technology

In the above chart we have measured SkyWater Technology'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 SkyWater Technology for free.

So How Is SkyWater Technology's ROCE Trending?

In terms of SkyWater Technology's historical ROCE movements, the trend doesn't inspire confidence. To be more specific, the ROCE was 2.8% five years ago, but since then it has dropped noticeably. Meanwhile, capital employed in the business has stayed roughly the flat over the period. 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. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on SkyWater Technology becoming one if things continue as they have.

On a side note, SkyWater Technology's current liabilities have increased over the last five years to 51% of total assets, effectively distorting the ROCE to some degree. Without this increase, it's likely that ROCE would be even lower than 0.7%. 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 SkyWater Technology's ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. And long term shareholders have watched their investments stay flat over the last three years. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

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

While SkyWater Technology 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.