When researching a stock for investment, what can tell us that the company is 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 indicates the company is producing less profit from its investments and its total assets are decreasing. On that note, looking into HUAYU Automotive Systems (SHSE:600741), we weren't too upbeat about how things were going.

Understanding 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. Analysts use this formula to calculate it for HUAYU Automotive Systems:

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

0.071 = CN¥5.0b ÷ (CN¥171b - CN¥100b) (Based on the trailing twelve months to September 2023).

Therefore, HUAYU Automotive Systems has an ROCE of 7.1%. In absolute terms, that's a low return, but it's much better than the Auto Components industry average of 5.8%.

See our latest analysis for HUAYU Automotive Systems

Above you can see how the current ROCE for HUAYU Automotive Systems compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering HUAYU Automotive Systems here for free.

So How Is HUAYU Automotive Systems' ROCE Trending?

There is reason to be cautious about HUAYU Automotive Systems, given the returns are trending downwards. To be more specific, the ROCE was 10% five years ago, but since then it has dropped noticeably. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. If these trends continue, we wouldn't expect HUAYU Automotive Systems to turn into a multi-bagger.

On a side note, HUAYU Automotive Systems' current liabilities are still rather high at 59% 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.

The Bottom Line

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 13% 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.

HUAYU Automotive Systems could be trading at an attractive price in other respects, so you might find our free intrinsic value estimation on our platform quite valuable.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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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.