If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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 Montage Technology (SHSE:688008) and its ROCE trend, we weren't exactly thrilled.
Understanding Return On Capital Employed (ROCE)
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Montage Technology is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.025 = CN¥252m ÷ (CN¥11b - CN¥386m) (Based on the trailing twelve months to September 2023).
Thus, Montage Technology has an ROCE of 2.5%. Ultimately, that's a low return and it under-performs the Semiconductor industry average of 4.2%.
Check out our latest analysis for Montage Technology
In the above chart we have measured Montage Technology'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 report on analyst forecasts for the company.
What The Trend Of ROCE Can Tell Us
When we looked at the ROCE trend at Montage Technology, we didn't gain much confidence. To be more specific, ROCE has fallen from 19% over the last five years. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.
What We Can Learn From Montage Technology's ROCE
From the above analysis, we find it rather worrisome that returns on capital and sales for Montage Technology have fallen, meanwhile the business is employing more capital than it was five years ago. It should come as no surprise then that the stock has fallen 38% over the last three years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.
If you'd like to know about the risks facing Montage Technology, we've discovered 2 warning signs that you should be aware of.
While Montage Technology 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.