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Winning numbers revealed

Returns On Capital Signal Difficult Times Ahead For Western Digital (NASDAQ:WDC)

When researching a stock for investment, what can tell us that the company is 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. 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 Western Digital (NASDAQ:WDC), the trends above didn't look too great.

What Is Return On Capital Employed (ROCE)?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Western Digital, this is the formula:

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

0.042 = US$872m ÷ (US$25b - US$4.4b) (Based on the trailing twelve months to December 2022).

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Therefore, Western Digital has an ROCE of 4.2%. Ultimately, that's a low return and it under-performs the Tech industry average of 13%.

Check out our latest analysis for Western Digital

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In the above chart we have measured Western Digital'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 Western Digital.

The Trend Of ROCE

There is reason to be cautious about Western Digital, given the returns are trending downwards. To be more specific, the ROCE was 13% five years ago, but since then it has dropped noticeably. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. 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 Western Digital becoming one if things continue as they have.

What We Can Learn From Western Digital'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. It should come as no surprise then that the stock has fallen 58% over the last five years, so it looks like investors are recognizing these changes. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

If you'd like to know more about Western Digital, we've spotted 2 warning signs, and 1 of them is potentially serious.

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.

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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