There Are Reasons To Feel Uneasy About Qingdao Topscomm Communication's (SHSE:603421) Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after briefly looking over the numbers, we don't think Qingdao Topscomm Communication (SHSE:603421) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Return On Capital Employed (ROCE): What Is It?

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 Qingdao Topscomm Communication:

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

0.03 = CN¥123m ÷ (CN¥5.6b - CN¥1.4b) (Based on the trailing twelve months to September 2023).

Therefore, Qingdao Topscomm Communication has an ROCE of 3.0%. Ultimately, that's a low return and it under-performs the Semiconductor industry average of 5.8%.

See our latest analysis for Qingdao Topscomm Communication

Historical performance is a great place to start when researching a stock so above you can see the gauge for Qingdao Topscomm Communication's ROCE against it's prior returns. If you'd like to look at how Qingdao Topscomm Communication has performed in the past in other metrics, you can view this free graph of Qingdao Topscomm Communication's past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

In terms of Qingdao Topscomm Communication's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 10%, but since then they've fallen to 3.0%. However it looks like Qingdao Topscomm Communication might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 25%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 3.0%. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.

Our Take On Qingdao Topscomm Communication's ROCE

In summary, Qingdao Topscomm Communication is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Since the stock has declined 52% over the last five years, investors may not be too optimistic on this trend improving either. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.

One final note, you should learn about the 3 warning signs we've spotted with Qingdao Topscomm Communication (including 1 which doesn't sit too well with us) .

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.