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To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. 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. And from a first read, things don't look too good at Reach (LON:RCH), so let's see why.
Return On Capital Employed (ROCE): What Is It?
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 Reach, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.078 = UK£83m ÷ (UK£1.2b - UK£157m) (Based on the trailing twelve months to December 2023).
Thus, Reach has an ROCE of 7.8%. Even though it's in line with the industry average of 8.1%, it's still a low return by itself.
View our latest analysis for Reach
Above you can see how the current ROCE for Reach 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 Reach .
How Are Returns Trending?
There is reason to be cautious about Reach, given the returns are trending downwards. About five years ago, returns on capital were 10%, however they're now substantially lower than that as we saw above. 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 Reach to turn into a multi-bagger.
Our Take On Reach's ROCE
In summary, it's unfortunate that Reach is generating lower returns from the same amount of capital. Yet despite these concerning fundamentals, the stock has performed strongly with a 58% return over the last five years, so investors appear very optimistic. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.
If you want to know some of the risks facing Reach we've found 3 warning signs (1 is significant!) that you should be aware of before investing here.
For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.