Is Innolux (TPE:3481) Headed For Trouble?

What financial metrics can indicate to us that a company is maturing or even in decline? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. Ultimately this means that the company is earning less per dollar invested and on top of that, it's shrinking its base of capital employed. On that note, looking into Innolux (TPE:3481), we weren't too upbeat about how things were going.

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

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for Innolux:

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

0.0069 = NT$1.8b ÷ (NT$366b - NT$105b) (Based on the trailing twelve months to December 2020).

Therefore, Innolux has an ROCE of 0.7%. In absolute terms, that's a low return and it also under-performs the Electronic industry average of 11%.

See our latest analysis for Innolux

Above you can see how the current ROCE for Innolux 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 Innolux here for free.

What Does the ROCE Trend For Innolux Tell Us?

We are a bit worried about the trend of returns on capital at Innolux. About five years ago, returns on capital were 7.7%, however they're now substantially lower than that as we saw above. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Innolux becoming one if things continue as they have.

The Key Takeaway

In summary, it's unfortunate that Innolux is generating lower returns from the same amount of capital. Yet despite these concerning fundamentals, the stock has performed strongly with a 80% return over the last five years, so investors appear very optimistic. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

One more thing, we've spotted 1 warning sign facing Innolux that you might find interesting.

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This article by Simply Wall St is general in nature. 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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