A Look Into Sonata Software's (NSE:SONATSOFTW) Impressive Returns On Capital

There are a few key trends to look for if we want to identify the next multi-bagger. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. Ergo, when we looked at the ROCE trends at Sonata Software (NSE:SONATSOFTW), we liked what we saw.

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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 Sonata Software, this is the formula:

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

0.30 = ₹5.8b ÷ (₹48b - ₹28b) (Based on the trailing twelve months to December 2024).

Therefore, Sonata Software has an ROCE of 30%. That's a fantastic return and not only that, it outpaces the average of 15% earned by companies in a similar industry.

View our latest analysis for Sonata Software

Above you can see how the current ROCE for Sonata Software 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 Sonata Software for free.

What Does the ROCE Trend For Sonata Software Tell Us?

In terms of Sonata Software's history of ROCE, it's quite impressive. The company has employed 110% more capital in the last five years, and the returns on that capital have remained stable at 30%. With returns that high, it's great that the business can continually reinvest its money at such appealing rates of return. If Sonata Software can keep this up, we'd be very optimistic about its future.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 59% of total assets, this reported ROCE would probably be less than30% because total capital employed would be higher.The 30% ROCE could be even lower if current liabilities weren't 59% of total assets, because the the formula would show a larger base of total capital employed. So with current liabilities at such high levels, this effectively means the likes of suppliers or short-term creditors are funding a meaningful part of the business, which in some instances can bring some risks.

Our Take On Sonata Software's ROCE

Sonata Software has demonstrated its proficiency by generating high returns on increasing amounts of capital employed, which we're thrilled about. And long term investors would be thrilled with the 421% return they've received over the last five years. So while investors seem to be recognizing these promising trends, we still believe the stock deserves further research.

On a separate note, we've found 1 warning sign for Sonata Software you'll probably want to know about.

If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets 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.