Here's What's Concerning About Kinaxis' (TSE:KXS) Returns On Capital

By
Simply Wall St
Published
May 07, 2022
TSX:KXS
Source: Shutterstock

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Kinaxis (TSE:KXS) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Understanding 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. Analysts use this formula to calculate it for Kinaxis:

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

0.044 = US$18m ÷ (US$571m - US$165m) (Based on the trailing twelve months to March 2022).

Thus, Kinaxis has an ROCE of 4.4%. Ultimately, that's a low return and it under-performs the Software industry average of 8.4%.

See our latest analysis for Kinaxis

roce
TSX:KXS Return on Capital Employed May 7th 2022

In the above chart we have measured Kinaxis' prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Kinaxis.

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at Kinaxis doesn't inspire confidence. Around five years ago the returns on capital were 16%, but since then they've fallen to 4.4%. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, Kinaxis has decreased its current liabilities to 29% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. 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...

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Kinaxis. Furthermore the stock has climbed 64% over the last five years, it would appear that investors are upbeat about the future. So should these growth trends continue, we'd be optimistic on the stock going forward.

If you want to continue researching Kinaxis, you might be interested to know about the 1 warning sign that our analysis has discovered.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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