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Shenzhen Sea Star Technology (SZSE:002137) Is Finding It Tricky To Allocate Its Capital

Simply Wall St ·  Feb 22 19:03

What financial metrics can indicate to us that a company is maturing or even in decline? 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 reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. In light of that, from a first glance at Shenzhen Sea Star Technology (SZSE:002137), we've spotted some signs that it could be struggling, so let's investigate.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Shenzhen Sea Star Technology, this is the formula:

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

0.015 = CN¥25m ÷ (CN¥2.0b - CN¥334m) (Based on the trailing twelve months to September 2023).

Therefore, Shenzhen Sea Star Technology has an ROCE of 1.5%. In absolute terms, that's a low return and it also under-performs the Software industry average of 2.7%.

roce
SZSE:002137 Return on Capital Employed February 23rd 2024

Historical performance is a great place to start when researching a stock so above you can see the gauge for Shenzhen Sea Star Technology's ROCE against it's prior returns. If you're interested in investigating Shenzhen Sea Star Technology's past further, check out this free graph covering Shenzhen Sea Star Technology's past earnings, revenue and cash flow.

So How Is Shenzhen Sea Star Technology's ROCE Trending?

We are a bit worried about the trend of returns on capital at Shenzhen Sea Star Technology. About five years ago, returns on capital were 3.3%, however they're now substantially lower than that as we saw above. Meanwhile, capital employed in the business has stayed roughly the flat over the period. 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. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Shenzhen Sea Star Technology becoming one if things continue as they have.

The Bottom Line On Shenzhen Sea Star Technology's 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 28% over the last five years, so it looks like investors are recognizing these changes. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

One more thing to note, we've identified 1 warning sign with Shenzhen Sea Star Technology and understanding this should be part of your investment process.

While Shenzhen Sea Star Technology isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.

Disclaimer: This content is for informational and educational purposes only and does not constitute a recommendation or endorsement of any specific investment or investment strategy. Read more
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