Power Integrations (NASDAQ:POWI) Might Be Having Difficulty Using Its Capital Effectively

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Although, when we looked at Power Integrations (NASDAQ:POWI), it didn't seem to tick all of these boxes.

What Is Return On Capital Employed (ROCE)?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for Power Integrations, this is the formula:

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

0.039 = US$30m ÷ (US$806m - US$50m) (Based on the trailing twelve months to March 2024).

Therefore, Power Integrations has an ROCE of 3.9%. In absolute terms, that's a low return and it also under-performs the Semiconductor industry average of 8.9%.

See our latest analysis for Power Integrations

In the above chart we have measured Power Integrations' prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Power Integrations .

So How Is Power Integrations' ROCE Trending?

In terms of Power Integrations' historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 8.7% over the last five years. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

Our Take On Power Integrations' ROCE

In summary, we're somewhat concerned by Power Integrations' diminishing returns on increasing amounts of capital. Yet despite these concerning fundamentals, the stock has performed strongly with a 78% 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.

On a separate note, we've found 2 warning signs for Power Integrations you'll probably want to know about.

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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.

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