Sylogist (TSE:SYZ) Could Be Struggling To Allocate Capital

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. Having said that, after a brief look, Sylogist (TSE:SYZ) we aren't filled with optimism, but let's investigate further.

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. The formula for this calculation on Sylogist is:

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

0.083 = CA$4.2m ÷ (CA$100m - CA$49m) (Based on the trailing twelve months to March 2023).

Therefore, Sylogist has an ROCE of 8.3%. In absolute terms, that's a low return but it's around the Software industry average of 8.9%.

See our latest analysis for Sylogist

In the above chart we have measured Sylogist'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 Sylogist here for free.

SWOT Analysis for Sylogist

How Are Returns Trending?

There is reason to be cautious about Sylogist, given the returns are trending downwards. About five years ago, returns on capital were 29%, however they're now substantially lower than that as we saw above. Meanwhile, capital employed in the business has stayed roughly the flat over the period. 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. If these trends continue, we wouldn't expect Sylogist to turn into a multi-bagger.

On a side note, Sylogist's current liabilities have increased over the last five years to 49% of total assets, effectively distorting the ROCE to some degree. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. What this means is that in reality, a rather large portion of the business is being funded by the likes of the company's suppliers or short-term creditors, which can bring some risks of its own.

The Bottom Line On Sylogist's ROCE

In summary, it's unfortunate that Sylogist is generating lower returns from the same amount of capital. It should come as no surprise then that the stock has fallen 30% over the last five years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

On a final note, we've found 2 warning signs for Sylogist that we think you should be aware of.

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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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.