Webstep (OB:WSTEP) May Have Issues Allocating Its Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. Having said that, from a first glance at Webstep (OB:WSTEP) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Understanding Return On Capital Employed (ROCE)

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. The formula for this calculation on Webstep is:

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

0.12 = kr50m ÷ (kr617m - kr202m) (Based on the trailing twelve months to March 2021).

Thus, Webstep has an ROCE of 12%. In isolation, that's a pretty standard return but against the IT industry average of 18%, it's not as good.

See our latest analysis for Webstep

Historical performance is a great place to start when researching a stock so above you can see the gauge for Webstep's ROCE against it's prior returns. If you'd like to look at how Webstep has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Can We Tell From Webstep's ROCE Trend?

In terms of Webstep's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 12% from 23% five years ago. 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's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a related note, Webstep has decreased its current liabilities to 33% of total assets. That could partly explain why the ROCE has dropped. 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

To conclude, we've found that Webstep is reinvesting in the business, but returns have been falling. Since the stock has gained an impressive 32% over the last three years, investors must think there's better things to come. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

If you want to know some of the risks facing Webstep we've found 3 warning signs (1 is a bit unpleasant!) that you should be aware of before investing here.

While Webstep 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.
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