Here's What's Concerning About Converge Technology Solutions' (TSE:CTS) Returns On Capital

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after briefly looking over the numbers, we don't think Converge Technology Solutions (TSE:CTS) 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 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 Converge Technology Solutions, this is the formula:

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

0.071 = CA$56m ÷ (CA$2.2b - CA$1.4b) (Based on the trailing twelve months to March 2023).

So, Converge Technology Solutions has an ROCE of 7.1%. In absolute terms, that's a low return and it also under-performs the IT industry average of 14%.

See our latest analysis for Converge Technology Solutions

Above you can see how the current ROCE for Converge Technology Solutions compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Converge Technology Solutions here for free.

SWOT Analysis for Converge Technology Solutions

So How Is Converge Technology Solutions' ROCE Trending?

In terms of Converge Technology Solutions' historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 29% over the last five years. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, Converge Technology Solutions has decreased its current liabilities to 64% 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. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

The Key Takeaway

In summary, despite lower returns in the short term, we're encouraged to see that Converge Technology Solutions is reinvesting for growth and has higher sales as a result. And the stock has done incredibly well with a 161% return over the last three years, so long term investors are no doubt ecstatic with that result. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.

On a final note, we found 2 warning signs for Converge Technology Solutions (1 doesn't sit too well with us) you should be aware of.

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.