What Do The Returns On Capital At Taiwan Optical Platform (TPE:6464) Tell Us?

There are a few key trends to look for if we want to identify the next multi-bagger. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. Having said that, from a first glance at Taiwan Optical Platform (TPE:6464) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What is 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 Taiwan Optical Platform is:

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

0.077 = NT$1.4b ÷ (NT$20b - NT$2.2b) (Based on the trailing twelve months to September 2020).

Therefore, Taiwan Optical Platform has an ROCE of 7.7%. On its own that's a low return on capital but it's in line with the industry's average returns of 7.7%.

See our latest analysis for Taiwan Optical Platform

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how Taiwan Optical Platform has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Taiwan Optical Platform Tell Us?

In terms of Taiwan Optical Platform's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 7.7% from 16% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a related note, Taiwan Optical Platform has decreased its current liabilities to 11% 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 Key Takeaway

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Taiwan Optical Platform. However, total returns to shareholders over the last five years have been flat, which could indicate these growth trends potentially aren't accounted for yet by investors. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

One final note, you should learn about the 3 warning signs we've spotted with Taiwan Optical Platform (including 1 which is is concerning) .

While Taiwan Optical Platform 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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