When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. And from a first read, things don't look too good at Songcheng Performance DevelopmentLtd (SZSE:300144), so let's see why.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for Songcheng Performance DevelopmentLtd:

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

0.089 = CN¥845m ÷ (CN¥10b - CN¥638m) (Based on the trailing twelve months to September 2023).

So, Songcheng Performance DevelopmentLtd has an ROCE of 8.9%. On its own, that's a low figure but it's around the 8.4% average generated by the Hospitality industry.

In the above chart we have measured Songcheng Performance DevelopmentLtd'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 Songcheng Performance DevelopmentLtd for free.

What Can We Tell From Songcheng Performance DevelopmentLtd's ROCE Trend?

There is reason to be cautious about Songcheng Performance DevelopmentLtd, given the returns are trending downwards. About five years ago, returns on capital were 18%, however they're now substantially lower than that as we saw above. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. 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 Songcheng Performance DevelopmentLtd to turn into a multi-bagger.

The Key Takeaway

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 11% over the last five years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

If you're still interested in Songcheng Performance DevelopmentLtd it's worth checking out our FREE intrinsic value approximation for 300144 to see if it's trading at an attractive price in other respects.

While Songcheng Performance DevelopmentLtd isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.