To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. 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. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. So after we looked into GuangDong PaiSheng Intelligent TechnologyLtd (SZSE:300176), the trends above didn't look too great.

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. To calculate this metric for GuangDong PaiSheng Intelligent TechnologyLtd, this is the formula:

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

0.022 = CN¥20m ÷ (CN¥2.2b - CN¥1.3b) (Based on the trailing twelve months to September 2023).

Thus, GuangDong PaiSheng Intelligent TechnologyLtd has an ROCE of 2.2%. Ultimately, that's a low return and it under-performs the Auto Components industry average of 6.6%.

Historical performance is a great place to start when researching a stock so above you can see the gauge for GuangDong PaiSheng Intelligent TechnologyLtd's ROCE against it's prior returns. If you'd like to look at how GuangDong PaiSheng Intelligent TechnologyLtd has performed in the past in other metrics, you can view this free graph of GuangDong PaiSheng Intelligent TechnologyLtd's past earnings, revenue and cash flow.

What Does the ROCE Trend For GuangDong PaiSheng Intelligent TechnologyLtd Tell Us?

The trend of ROCE at GuangDong PaiSheng Intelligent TechnologyLtd is showing some signs of weakness. To be more specific, today's ROCE was 52% five years ago but has since fallen to 2.2%. In addition to that, GuangDong PaiSheng Intelligent TechnologyLtd is now employing 42% less capital than it was five years ago. 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 58%, 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

To see GuangDong PaiSheng Intelligent TechnologyLtd reducing the capital employed in the business in tandem with diminishing returns, is concerning. Unsurprisingly then, the stock has dived 85% over the last five years, so investors are recognizing these changes and don't like the company's prospects. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

On a final note, we found 3 warning signs for GuangDong PaiSheng Intelligent TechnologyLtd (1 can't be ignored) you should be aware of.

While GuangDong PaiSheng Intelligent TechnologyLtd 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.