Eris Technology (GTSM:3675) May Have Issues Allocating Its Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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 Eris Technology (GTSM:3675) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Eris Technology:

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

0.077 = NT$133m ÷ (NT$2.6b - NT$823m) (Based on the trailing twelve months to December 2020).

So, Eris Technology has an ROCE of 7.7%. Ultimately, that's a low return and it under-performs the Semiconductor industry average of 11%.

See our latest analysis for Eris Technology

Above you can see how the current ROCE for Eris Technology compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Eris Technology.

How Are Returns Trending?

When we looked at the ROCE trend at Eris Technology, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 7.7% from 11% five years ago. 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.

On a side note, Eris Technology's current liabilities have increased over the last five years to 32% of total assets, effectively distorting the ROCE to some degree. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.

What We Can Learn From Eris Technology's ROCE

To conclude, we've found that Eris Technology is reinvesting in the business, but returns have been falling. Yet to long term shareholders the stock has gifted them an incredible 518% return in the last five years, so the market appears to be rosy about its future. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

If you want to continue researching Eris Technology, you might be interested to know about the 2 warning signs that our analysis has discovered.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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