Alfa Financial Software Holdings' (LON:ALFA) Returns Have Hit A Wall

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. So when we looked at Alfa Financial Software Holdings (LON:ALFA), they do have a high ROCE, but we weren't exactly elated from how returns are trending.

Return On Capital Employed (ROCE): What is it?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for Alfa Financial Software Holdings:

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

0.31 = UK£25m ÷ (UK£112m - UK£32m) (Based on the trailing twelve months to June 2021).

Therefore, Alfa Financial Software Holdings has an ROCE of 31%. That's a fantastic return and not only that, it outpaces the average of 8.9% earned by companies in a similar industry.

Check out our latest analysis for Alfa Financial Software Holdings

Above you can see how the current ROCE for Alfa Financial Software Holdings 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 Alfa Financial Software Holdings here for free.

How Are Returns Trending?

Things have been pretty stable at Alfa Financial Software Holdings, with its capital employed and returns on that capital staying somewhat the same for the last five years. Businesses with these traits tend to be mature and steady operations because they're past the growth phase. So it may not be a multi-bagger in the making, but given the decent 31% return on capital, it'd be difficult to find fault with the business's current operations. On top of that you'll notice that Alfa Financial Software Holdings has been paying out a large portion (97%) of earnings in the form of dividends to shareholders. These mature businesses typically have reliable earnings and not many places to reinvest them, so the next best option is to put the earnings into shareholders pockets.

Our Take On Alfa Financial Software Holdings' ROCE

While Alfa Financial Software Holdings has impressive profitability from its capital, it isn't increasing that amount of capital. Although the market must be expecting these trends to improve because the stock has gained 83% over the last three years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

If you'd like to know about the risks facing Alfa Financial Software Holdings, we've discovered 1 warning sign that you should be aware of.

If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning 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.