If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? 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 combination can tell you that not only is the company investing less, it's earning less on what it does invest. On that note, looking into Vtech Holdings (HKG:303), we weren't too upbeat about how things were going.
Our free stock report includes 2 warning signs investors should be aware of before investing in Vtech Holdings. Read for free now.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. The formula for this calculation on Vtech Holdings is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.25 = US$190m ÷ (US$1.4b - US$670m) (Based on the trailing twelve months to September 2024).
So, Vtech Holdings has an ROCE of 25%. That's a fantastic return and not only that, it outpaces the average of 4.4% earned by companies in a similar industry.
View our latest analysis for Vtech Holdings
Above you can see how the current ROCE for Vtech Holdings compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for Vtech Holdings .
The Trend Of ROCE
There is reason to be cautious about Vtech Holdings, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 32% that they were earning five years ago. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. If these trends continue, we wouldn't expect Vtech Holdings to turn into a multi-bagger.
On a side note, Vtech Holdings' current liabilities are still rather high at 47% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
What We Can Learn From Vtech Holdings' ROCE
All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. In spite of that, the stock has delivered a 38% return to shareholders who held over the last five years. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.
If you want to know some of the risks facing Vtech Holdings we've found 2 warning signs (1 is potentially serious!) that you should be aware of before investing here.
Vtech Holdings is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.
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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.