Chang Wah Electromaterials (TWSE:8070) Could Be Struggling To Allocate Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. In light of that, when we looked at Chang Wah Electromaterials (TWSE:8070) and its ROCE trend, we weren't exactly thrilled.

Understanding Return On Capital Employed (ROCE)

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. The formula for this calculation on Chang Wah Electromaterials is:

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

0.061 = NT$1.9b ÷ (NT$39b - NT$7.5b) (Based on the trailing twelve months to September 2024).

So, Chang Wah Electromaterials has an ROCE of 6.1%. In absolute terms, that's a low return but it's around the Electronic industry average of 7.4%.

View our latest analysis for Chang Wah Electromaterials

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

So How Is Chang Wah Electromaterials' ROCE Trending?

In terms of Chang Wah Electromaterials' historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 6.1% from 9.7% 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 related note, Chang Wah Electromaterials has decreased its current liabilities to 19% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. 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 Bottom Line

To conclude, we've found that Chang Wah Electromaterials is reinvesting in the business, but returns have been falling. Investors must think there's better things to come because the stock has knocked it out of the park, delivering a 267% gain to shareholders who have held over the last five years. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

Chang Wah Electromaterials does have some risks though, and we've spotted 1 warning sign for Chang Wah Electromaterials that you might be interested in.

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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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.