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

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's 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. 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. Analysts use this formula to calculate it for Guo Tai Epoint SoftwareLtd:

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

0.027 = CN¥144m ÷ (CN¥6.4b - CN¥937m) (Based on the trailing twelve months to September 2024).

So, Guo Tai Epoint SoftwareLtd has an ROCE of 2.7%. In absolute terms, that's a low return but it's around the Software industry average of 2.3%.

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're interested, you can view the analysts predictions in our free analyst report for Guo Tai Epoint SoftwareLtd .

So How Is Guo Tai Epoint SoftwareLtd's ROCE Trending?

On the surface, the trend of ROCE at Guo Tai Epoint SoftwareLtd doesn't inspire confidence. Around five years ago the returns on capital were 46%, but since then they've fallen to 2.7%. And considering revenue has dropped while employing more capital, we'd be cautious. 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 15% of total assets. Considering it used to be 66%, that's a huge drop in that ratio and it would explain the decline in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. 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

In summary, we're somewhat concerned by Guo Tai Epoint SoftwareLtd's diminishing returns on increasing amounts of capital. Long term shareholders who've owned the stock over the last three years have experienced a 28% depreciation in their investment, so it appears the market might not like these trends either. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

On a final note, we found 3 warning signs for Guo Tai Epoint SoftwareLtd (1 is a bit concerning) you should be aware of.

While Guo Tai Epoint SoftwareLtd 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.