When we're researching a company, it's sometimes hard to find the warning signs, but there are some financial metrics that can help spot trouble early. 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. Basically the company is earning less on its investments and it is also reducing its total assets. So after glancing at the trends within Gym Group (LON:GYM), we weren't too hopeful.

This technology could replace computers: discover the 20 stocks are working to make quantum computing a reality.

Understanding 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 Gym Group, this is the formula:

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

0.047 = UK£24m ÷ (UK£586m - UK£78m) (Based on the trailing twelve months to December 2024).

Therefore, Gym Group has an ROCE of 4.7%. In absolute terms, that's a low return and it also under-performs the Hospitality industry average of 7.9%.

View our latest analysis for Gym Group

In the above chart we have measured Gym Group's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Gym Group .

How Are Returns Trending?

There is reason to be cautious about Gym Group, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 6.0% 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. 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 Gym Group to turn into a multi-bagger.

What We Can Learn From Gym Group's ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. Despite the concerning underlying trends, the stock has actually gained 22% over the last five years, so it might be that the investors are expecting the trends to reverse. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.