FormFactor (NASDAQ:FORM) Could Be Struggling To Allocate Capital

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. However, after investigating FormFactor (NASDAQ:FORM), we don't think it's current trends fit the mold of a multi-bagger.

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 FormFactor is:

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

0.042 = US$38m ÷ (US$1.0b - US$128m) (Based on the trailing twelve months to April 2023).

So, FormFactor has an ROCE of 4.2%. In absolute terms, that's a low return and it also under-performs the Semiconductor industry average of 13%.

Check out our latest analysis for FormFactor

Above you can see how the current ROCE for FormFactor 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 FormFactor.

SWOT Analysis for FormFactor

What The Trend Of ROCE Can Tell Us

In terms of FormFactor's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 8.0%, but since then they've fallen to 4.2%. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

The Key Takeaway

To conclude, we've found that FormFactor 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 128% 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.

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

While FormFactor 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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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.