UCAP Cloud Information TechnologyLtd (SHSE:688228) Is Reinvesting At Lower Rates Of Return

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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at UCAP Cloud Information TechnologyLtd (SHSE:688228), it didn't seem to tick all of these boxes.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on UCAP Cloud Information TechnologyLtd is:

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

0.025 = CN¥38m ÷ (CN¥1.9b - CN¥385m) (Based on the trailing twelve months to June 2024).

Therefore, UCAP Cloud Information TechnologyLtd has an ROCE of 2.5%. Ultimately, that's a low return and it under-performs the IT industry average of 4.0%.

View our latest analysis for UCAP Cloud Information TechnologyLtd

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating UCAP Cloud Information TechnologyLtd's past further, check out this free graph covering UCAP Cloud Information TechnologyLtd's past earnings, revenue and cash flow.

The Trend Of ROCE

On the surface, the trend of ROCE at UCAP Cloud Information TechnologyLtd doesn't inspire confidence. To be more specific, ROCE has fallen from 28% over the last five years. 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, UCAP Cloud Information TechnologyLtd has done well to pay down its current liabilities to 20% of total assets. So we could link some of this to the decrease in ROCE. 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. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Bottom Line

While returns have fallen for UCAP Cloud Information TechnologyLtd in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And there could be an opportunity here if other metrics look good too, because the stock has declined 21% in the last three years. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

One more thing: We've identified 2 warning signs with UCAP Cloud Information TechnologyLtd (at least 1 which is a bit unpleasant) , and understanding these would certainly be useful.

While UCAP Cloud Information TechnologyLtd may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.