Returns On Capital Signal Tricky Times Ahead For Temenos (VTX:TEMN)

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. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after investigating Temenos (VTX:TEMN), we don't think it's current trends fit the mold of a multi-bagger.

What Is Return On Capital Employed (ROCE)?

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. To calculate this metric for Temenos, this is the formula:

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

0.15 = US$172m ÷ (US$2.2b - US$1.1b) (Based on the trailing twelve months to June 2023).

So, Temenos has an ROCE of 15%. On its own, that's a standard return, however it's much better than the 11% generated by the Software industry.

View our latest analysis for Temenos

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

What The Trend Of ROCE Can Tell Us

In terms of Temenos' historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 29% over the last five years. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.

On a separate but related note, it's important to know that Temenos has a current liabilities to total assets ratio of 48%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Bottom Line On Temenos' ROCE

Bringing it all together, while we're somewhat encouraged by Temenos' reinvestment in its own business, we're aware that returns are shrinking. And investors appear hesitant that the trends will pick up because the stock has fallen 53% in the last five years. Therefore based on the analysis done in this article, we don't think Temenos has the makings of a multi-bagger.

On a separate note, we've found 1 warning sign for Temenos you'll probably want to know about.

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.