Guo Tai Epoint SoftwareLtd (SHSE:688232) Will Want To Turn Around Its Return Trends

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. However, after investigating Guo Tai Epoint SoftwareLtd (SHSE:688232), we don't think it's current trends fit the mold of a multi-bagger.

What Is 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. The formula for this calculation on Guo Tai Epoint SoftwareLtd is:

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

0.031 = CN¥169m ÷ (CN¥6.5b - CN¥1.0b) (Based on the trailing twelve months to December 2023).

Thus, Guo Tai Epoint SoftwareLtd has an ROCE of 3.1%. Even though it's in line with the industry average of 2.7%, it's still a low return by itself.

See our latest analysis for Guo Tai Epoint SoftwareLtd

Above you can see how the current ROCE for Guo Tai Epoint SoftwareLtd compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Guo Tai Epoint SoftwareLtd for free.

What Can We Tell From Guo Tai Epoint SoftwareLtd's ROCE Trend?

In terms of Guo Tai Epoint SoftwareLtd's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 47% over the last four years. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

On a related note, Guo Tai Epoint SoftwareLtd has decreased its current liabilities to 16% of total assets. That could partly explain why the ROCE has dropped. 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.

The Key Takeaway

From the above analysis, we find it rather worrisome that returns on capital and sales for Guo Tai Epoint SoftwareLtd have fallen, meanwhile the business is employing more capital than it was four years ago. It should come as no surprise then that the stock has fallen 62% over the last year, 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.

One more thing to note, we've identified 2 warning signs with Guo Tai Epoint SoftwareLtd and understanding these should be part of your investment process.

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.