What We Make Of Adda's (GTSM:3071) Returns On Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. With that in mind, we've noticed some promising trends at Adda (GTSM:3071) so let's look a bit deeper.

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. Analysts use this formula to calculate it for Adda:

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

0.11 = NT$190m ÷ (NT$2.9b - NT$1.2b) (Based on the trailing twelve months to September 2020).

Therefore, Adda has an ROCE of 11%. That's a relatively normal return on capital, and it's around the 12% generated by the Tech industry.

Check out our latest analysis for Adda

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're interested in investigating Adda's past further, check out this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Adda Tell Us?

We're delighted to see that Adda is reaping rewards from its investments and has now broken into profitability. While the business was unprofitable in the past, it's now turned things around and is earning 11% on its capital. Interestingly, the capital employed by the business has remained relatively flat, so these higher returns are either from prior investments paying off or increased efficiencies. That being said, while an increase in efficiency is no doubt appealing, it'd be helpful to know if the company does have any investment plans going forward. Because in the end, a business can only get so efficient.

On a separate but related note, it's important to know that Adda has a current liabilities to total assets ratio of 42%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On Adda's ROCE

To bring it all together, Adda has done well to increase the returns it's generating from its capital employed. Since the stock has returned a staggering 309% to shareholders over the last five years, it looks like investors are recognizing these changes. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

One more thing to note, we've identified 3 warning signs with Adda and understanding these should be part of your investment process.

While Adda 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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