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Ignoring the stock price of a company, what are the underlying trends that tell us a business is past the growth phase? 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 reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. So after glancing at the trends within Oxford Metrics (LON:OMG), we weren't too hopeful.
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. The formula for this calculation on Oxford Metrics is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.048 = UK£1.7m ÷ (UK£46m - UK£10m) (Based on the trailing twelve months to September 2020).
Thus, Oxford Metrics has an ROCE of 4.8%. In absolute terms, that's a low return and it also under-performs the Software industry average of 7.4%.
Above you can see how the current ROCE for Oxford Metrics 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.
What Can We Tell From Oxford Metrics' ROCE Trend?
We are a bit worried about the trend of returns on capital at Oxford Metrics. Unfortunately the returns on capital have diminished from the 15% that they were earning five years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Oxford Metrics becoming one if things continue as they have.
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. The market must be rosy on the stock's future because even though the underlying trends aren't too encouraging, the stock has soared 134%. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.
Oxford Metrics does come with some risks though, we found 3 warning signs in our investment analysis, and 1 of those is significant...
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.
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.
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