To avoid investing in a business that’s in decline, there’s a few financial metrics that can provide early indications of aging. When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that’s often how a mature business shows signs of aging. This combination can tell you that not only is the company investing less, it’s earning less on what it does invest. And from a first read, things don’t look too good at Crown Crafts (NASDAQ:CRWS), so let’s see why.
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. Analysts use this formula to calculate it for Crown Crafts:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.21 = US$9.8m ÷ (US$61m – US$15m) (Based on the trailing twelve months to June 2021).
Therefore, Crown Crafts has an ROCE of 21%. In absolute terms that’s a great return and it’s even better than the Luxury industry average of 14%.
In the above chart we have measured Crown Crafts’ prior ROCE against its prior performance, but the future is arguably more important. If you’d like, you can check out the forecasts from the analysts covering Crown Crafts here for free.
How Are Returns Trending?
There is reason to be cautious about Crown Crafts, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 27% that they were earning five 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 Crown Crafts to turn into a multi-bagger.
The Key Takeaway
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. Investors must expect better things on the horizon though because the stock has risen 3.5% in 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.
One final note, you should learn about the 3 warning signs we’ve spotted with Crown Crafts (including 1 which is potentially serious) .
If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning high returns on equity.
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.