If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? 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 indicates the company is producing less profit from its investments and its total assets are decreasing. So after we looked into China Tianrui Automotive Interiors (HKG:6162), the trends above didn't look too great.
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 China Tianrui Automotive Interiors, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.036 = CN¥9.5m ÷ (CN¥507m - CN¥246m) (Based on the trailing twelve months to June 2024).
Thus, China Tianrui Automotive Interiors has an ROCE of 3.6%. In absolute terms, that's a low return and it also under-performs the Auto Components industry average of 6.5%.
Check out our latest analysis for China Tianrui Automotive Interiors
While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of China Tianrui Automotive Interiors.
What The Trend Of ROCE Can Tell Us
In terms of China Tianrui Automotive Interiors' historical ROCE movements, the trend doesn't inspire confidence. To be more specific, the ROCE was 22% five years ago, but since then it has dropped noticeably. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. 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 China Tianrui Automotive Interiors to turn into a multi-bagger.
On a side note, China Tianrui Automotive Interiors' current liabilities are still rather high at 49% of total assets. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.
Our Take On China Tianrui Automotive Interiors' ROCE
All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. It should come as no surprise then that the stock has fallen 46% 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.
If you want to know some of the risks facing China Tianrui Automotive Interiors we've found 2 warning signs (1 is a bit concerning!) that you should be aware of before investing here.
While China Tianrui Automotive Interiors 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.