Capital Allocation Trends At Semtech (NASDAQ:SMTC) Aren't Ideal

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Although, when we looked at Semtech (NASDAQ:SMTC), it didn't seem to tick all of these boxes.

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. To calculate this metric for Semtech, this is the formula:

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

0.0023 = US$2.7m ÷ (US$1.4b - US$225m) (Based on the trailing twelve months to July 2024).

Thus, Semtech has an ROCE of 0.2%. In absolute terms, that's a low return and it also under-performs the Semiconductor industry average of 9.0%.

See our latest analysis for Semtech

In the above chart we have measured Semtech's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Semtech .

So How Is Semtech's ROCE Trending?

On the surface, the trend of ROCE at Semtech doesn't inspire confidence. Around five years ago the returns on capital were 9.5%, but since then they've fallen to 0.2%. 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.

The Bottom Line On Semtech's ROCE

To conclude, we've found that Semtech is reinvesting in the business, but returns have been falling. And investors may be recognizing these trends since the stock has only returned a total of 0.5% to shareholders over the last five years. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.

One more thing to note, we've identified 2 warning signs with Semtech and understanding them should be part of your investment process.

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.