To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. 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. Basically the company is earning less on its investments and it is also reducing its total assets. So after glancing at the trends within Kelso Technologies (TSE:KLS), we weren't too hopeful.

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. Analysts use this formula to calculate it for Kelso Technologies:

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

0.25 = US$3.3m ÷ (US$16m - US$2.9m) (Based on the trailing twelve months to March 2020).

Therefore, Kelso Technologies has an ROCE of 25%. That's a fantastic return and not only that, it outpaces the average of 10% earned by companies in a similar industry.

View our latest analysis for Kelso Technologies

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Kelso Technologies' past further, check out this free graph of past earnings, revenue and cash flow.

What Can We Tell From Kelso Technologies' ROCE Trend?

In terms of Kelso Technologies' historical ROCE trend, it isn't fantastic. To be more specific, today's ROCE was 32% five years ago but has since fallen to 25%. On top of that, the business is utilizing 24% less capital within its operations. The combination of lower ROCE and less capital employed can indicate that a business is likely to be facing some competitive headwinds or seeing an erosion to its moat. If these underlying trends continue, we wouldn't be too optimistic going forward.

The Key Takeaway

In summary, it's unfortunate that Kelso Technologies is shrinking its capital base and also generating lower returns. This could explain why the stock has sunk a total of 76% in the last five years. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

Like most companies, Kelso Technologies does come with some risks, and we've found 1 warning sign that you should be aware of.