The Returns On Capital At Rectifier Technologies (ASX:RFT) Don't Inspire Confidence

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. However, after briefly looking over the numbers, we don't think Rectifier Technologies (ASX:RFT) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What Is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Rectifier Technologies, this is the formula:

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

0.04 = AU$803k ÷ (AU$32m - AU$12m) (Based on the trailing twelve months to June 2024).

Thus, Rectifier Technologies has an ROCE of 4.0%. In absolute terms, that's a low return and it also under-performs the Electrical industry average of 12%.

View our latest analysis for Rectifier Technologies

Historical performance is a great place to start when researching a stock so above you can see the gauge for Rectifier Technologies' ROCE against it's prior returns. If you're interested in investigating Rectifier Technologies' past further, check out this free graph covering Rectifier Technologies' past earnings, revenue and cash flow.

The Trend Of ROCE

On the surface, the trend of ROCE at Rectifier Technologies doesn't inspire confidence. Around five years ago the returns on capital were 37%, but since then they've fallen to 4.0%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

The Bottom Line On Rectifier Technologies' ROCE

In summary, we're somewhat concerned by Rectifier Technologies' diminishing returns on increasing amounts of capital. We expect this has contributed to the stock plummeting 74% during the last five years. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

Rectifier Technologies does come with some risks though, we found 3 warning signs in our investment analysis, and 1 of those shouldn't be ignored...

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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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.