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. 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. So after we looked into Dialight (LON:DIA), the trends above didn't look too great.

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. Analysts use this formula to calculate it for Dialight:

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

0.001 = UK￡100k ÷ (UK￡126m - UK￡30m) (Based on the trailing twelve months to December 2023).

Thus, Dialight has an ROCE of 0.1%. Ultimately, that's a low return and it under-performs the Electrical industry average of 10%.

Check out our latest analysis for Dialight

Historical performance is a great place to start when researching a stock so above you can see the gauge for Dialight's ROCE against it's prior returns. If you'd like to look at how Dialight has performed in the past in other metrics, you can view this free graph of Dialight's past earnings, revenue and cash flow.

What Does the ROCE Trend For Dialight Tell Us?

There is reason to be cautious about Dialight, given the returns are trending downwards. About five years ago, returns on capital were 8.8%, however they're now substantially lower than that as we saw above. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. If these trends continue, we wouldn't expect Dialight to turn into a multi-bagger.

The Bottom Line On Dialight's 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. Long term shareholders who've owned the stock over the last five years have experienced a 51% depreciation in their investment, so it appears the market might not like these trends either. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.