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If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? 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. In light of that, from a first glance at Tidewater Renewables (TSE:LCFS), we've spotted some signs that it could be struggling, so let's investigate.
Return On Capital Employed (ROCE): What Is It?
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. To calculate this metric for Tidewater Renewables, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.0096 = CA$7.7m ÷ (CA$1.1b - CA$270m) (Based on the trailing twelve months to June 2024).
So, Tidewater Renewables has an ROCE of 1.0%. In absolute terms, that's a low return and it also under-performs the Oil and Gas industry average of 8.5%.
View our latest analysis for Tidewater Renewables
Above you can see how the current ROCE for Tidewater Renewables 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 Tidewater Renewables for free.
The Trend Of ROCE
We are a bit worried about the trend of returns on capital at Tidewater Renewables. Unfortunately the returns on capital have diminished from the 2.5% that they were earning two years ago. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. 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 Tidewater Renewables to turn into a multi-bagger.
On a side note, Tidewater Renewables' current liabilities have increased over the last two years to 25% of total assets, effectively distorting the ROCE to some degree. Without this increase, it's likely that ROCE would be even lower than 1.0%. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.
What We Can Learn From Tidewater Renewables' ROCE
In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. Unsurprisingly then, the stock has dived 81% over the last three years, so investors are recognizing these changes and don't like the company's prospects. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.