Here's What's Concerning About Integrated Research's (ASX:IRI) Returns On Capital

When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. A business that's potentially in decline often shows two trends, a return on capital employed (ROCE) that's declining, and a base of capital employed that's also declining. Trends like this ultimately mean the business is reducing its investments and also earning less on what it has invested. So after we looked into Integrated Research (ASX:IRI), the trends above didn't look too great.

What Is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Integrated Research is:

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

0.12 = AU$9.1m ÷ (AU$97m - AU$24m) (Based on the trailing twelve months to December 2023).

So, Integrated Research has an ROCE of 12%. That's a relatively normal return on capital, and it's around the 13% generated by the Software industry.

See our latest analysis for Integrated Research

In the above chart we have measured Integrated Research's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Integrated Research for free.

What Does the ROCE Trend For Integrated Research Tell Us?

In terms of Integrated Research's historical ROCE movements, the trend doesn't inspire confidence. Unfortunately the returns on capital have diminished from the 35% 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. 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 Integrated Research becoming one if things continue as they have.

On a related note, Integrated Research has decreased its current liabilities to 25% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

In Conclusion...

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. We expect this has contributed to the stock plummeting 85% during the last five years. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

Integrated Research does have some risks though, and we've spotted 1 warning sign for Integrated Research that you might be interested in.

While Integrated Research may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.