Chinasoft International (HKG:354) May Have Issues Allocating Its Capital

There are a few key trends to look for if we want to identify the next multi-bagger. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after briefly looking over the numbers, we don't think Chinasoft International (HKG:354) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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 Chinasoft International is:

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

0.029 = CN¥421m ÷ (CN¥18b - CN¥3.5b) (Based on the trailing twelve months to June 2023).

Therefore, Chinasoft International has an ROCE of 2.9%. In absolute terms, that's a low return and it also under-performs the IT industry average of 6.6%.

See our latest analysis for Chinasoft International

Above you can see how the current ROCE for Chinasoft International 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 report on analyst forecasts for the company.

What Can We Tell From Chinasoft International's ROCE Trend?

In terms of Chinasoft International's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 12% over the last five years. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.

The Bottom Line

Bringing it all together, while we're somewhat encouraged by Chinasoft International's reinvestment in its own business, we're aware that returns are shrinking. And investors may be recognizing these trends since the stock has only returned a total of 39% to shareholders over the last five years. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.

Chinasoft International does have some risks though, and we've spotted 1 warning sign for Chinasoft International that you might be interested in.

While Chinasoft International isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.