If you're looking for a multi-bagger, there's a few things to keep an eye out for. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Giantec Semiconductor (SHSE:688123) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.
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 Giantec Semiconductor:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.065 = CN¥126m ÷ (CN¥2.0b - CN¥87m) (Based on the trailing twelve months to September 2023).
Thus, Giantec Semiconductor has an ROCE of 6.5%. On its own that's a low return, but compared to the average of 4.7% generated by the Semiconductor industry, it's much better.
In the above chart we have measured Giantec Semiconductor's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Giantec Semiconductor here for free.
What Does the ROCE Trend For Giantec Semiconductor Tell Us?
When we looked at the ROCE trend at Giantec Semiconductor, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 6.5% from 22% five years ago. 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.
On a side note, Giantec Semiconductor has done well to pay down its current liabilities to 4.4% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.
In Conclusion...
In summary, we're somewhat concerned by Giantec Semiconductor's diminishing returns on increasing amounts of capital. However the stock has delivered a 30% return to shareholders over the last three years, so investors might be expecting the trends to turn around. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.
One more thing to note, we've identified 2 warning signs with Giantec Semiconductor and understanding them should be part of your investment process.
While Giantec Semiconductor 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.