What financial metrics can indicate to us that a company is maturing or even in decline? Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount of capital employed. This indicates the company is producing less profit from its investments and its total assets are decreasing. In light of that, from a first glance at Persimmon (LON:PSN), we've spotted some signs that it could be struggling, so let's investigate.
Return On Capital Employed (ROCE): What Is It?
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for Persimmon, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.18 = UK£722m ÷ (UK£5.0b - UK£1.1b) (Based on the trailing twelve months to December 2022).
Thus, Persimmon has an ROCE of 18%. In absolute terms, that's a satisfactory return, but compared to the Consumer Durables industry average of 13% it's much better.
In the above chart we have measured Persimmon's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Persimmon.
The Trend Of ROCE
We are a bit worried about the trend of returns on capital at Persimmon. To be more specific, the ROCE was 27% five years ago, but since then it has dropped noticeably. Meanwhile, capital employed in the business has stayed roughly the flat over the period. 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. If these trends continue, we wouldn't expect Persimmon to turn into a multi-bagger.
Our Take On Persimmon's ROCE
In summary, it's unfortunate that Persimmon is generating lower returns from the same amount of capital. Long term shareholders who've owned the stock over the last five years have experienced a 34% depreciation in their investment, so it appears the market might not like these trends either. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.
One final note, you should learn about the 3 warning signs we've spotted with Persimmon (including 1 which doesn't sit too well with us) .
While Persimmon isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
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