What are the early trends we should look for to identify a stock that could multiply in value over the long term? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. In light of that, when we looked at CLPS Incorporation (NASDAQ:CLPS) 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. Analysts use this formula to calculate it for CLPS Incorporation:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.10 = US$3.9m ÷ (US$66m - US$28m) (Based on the trailing twelve months to December 2020).
Thus, CLPS Incorporation has an ROCE of 10%. That's a relatively normal return on capital, and it's around the 11% generated by the IT industry.
Historical performance is a great place to start when researching a stock so above you can see the gauge for CLPS Incorporation's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of CLPS Incorporation, check out these free graphs here.
What Can We Tell From CLPS Incorporation's ROCE Trend?
In terms of CLPS Incorporation's historical ROCE movements, the trend isn't fantastic. Around four years ago the returns on capital were 23%, but since then they've fallen to 10%. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.
On a side note, CLPS Incorporation has done well to pay down its current liabilities to 42% of total assets. That could partly explain why the ROCE has dropped. 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. Keep in mind 42% is still pretty high, so those risks are still somewhat prevalent.
Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for CLPS Incorporation. And there could be an opportunity here if other metrics look good too, because the stock has declined 66% in the last three years. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.
On a final note, we've found 3 warning signs for CLPS Incorporation that we think you should be aware of.
While CLPS Incorporation 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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CLPS Incorporation provides information technology (IT), consulting, and solutions to institutions operating in banking, insurance, and financial sectors in the People’s Republic of China and internationally.
Adequate balance sheet and slightly overvalued.