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Is Arrow Electronics (NYSE:ARW) Headed For Trouble?

Simply Wall St
·4 min read

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When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. 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. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. So after glancing at the trends within Arrow Electronics (NYSE:ARW), we weren't too hopeful.

What is 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 Arrow Electronics, this is the formula:

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

0.097 = US$726m ÷ (US$15b - US$7.9b) (Based on the trailing twelve months to March 2020).

So, Arrow Electronics has an ROCE of 9.7%. On its own, that's a low figure but it's around the 11% average generated by the Electronic industry.

View our latest analysis for Arrow Electronics

roce
roce

Above you can see how the current ROCE for Arrow Electronics 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 report on analyst forecasts for the company.

How Are Returns Trending?

There is reason to be cautious about Arrow Electronics, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 13% that they were earning five years ago. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Arrow Electronics becoming one if things continue as they have.

On a side note, Arrow Electronics' current liabilities have increased over the last five years to 51% of total assets, effectively distorting the ROCE to some degree. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. What this means is that in reality, a rather large portion of the business is being funded by the likes of the company's suppliers or short-term creditors, which can bring some risks of its own.

Our Take On Arrow Electronics' 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. In spite of that, the stock has delivered a 26% return to shareholders who held over the last five years. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

Arrow Electronics does come with some risks though, we found 2 warning signs in our investment analysis, and 1 of those shouldn't be ignored...

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

This article by Simply Wall St is general in nature. 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@simplywallst.com.