There Are Reasons To Feel Uneasy About Colorlight Cloud Tech's (SZSE:301391) Returns On Capital

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out 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. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after investigating Colorlight Cloud Tech (SZSE:301391), we don't think it's current trends fit the mold of a multi-bagger.

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

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. To calculate this metric for Colorlight Cloud Tech, this is the formula:

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

0.034 = CN¥74m ÷ (CN¥2.6b - CN¥452m) (Based on the trailing twelve months to September 2024).

Therefore, Colorlight Cloud Tech has an ROCE of 3.4%. Ultimately, that's a low return and it under-performs the Electronic industry average of 5.5%.

See our latest analysis for Colorlight Cloud Tech

Above you can see how the current ROCE for Colorlight Cloud Tech 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 Colorlight Cloud Tech for free.

How Are Returns Trending?

On the surface, the trend of ROCE at Colorlight Cloud Tech doesn't inspire confidence. To be more specific, ROCE has fallen from 58% over the last five years. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

On a related note, Colorlight Cloud Tech has decreased its current liabilities to 17% of total assets. So we could link some of this to the decrease in ROCE. 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 Bottom Line On Colorlight Cloud Tech's ROCE

To conclude, we've found that Colorlight Cloud Tech is reinvesting in the business, but returns have been falling. Since the stock has declined 48% over the last year, investors may not be too optimistic on this trend improving either. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.

One final note, you should learn about the 4 warning signs we've spotted with Colorlight Cloud Tech (including 1 which is a bit unpleasant) .

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.