Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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. In light of that, when we looked at Silicon Motion Technology (NASDAQ:SIMO) and its ROCE trend, we weren't exactly thrilled.

Return On Capital Employed (ROCE): What Is It?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Silicon Motion Technology, this is the formula:

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

0.095 = US$81m ÷ (US$1.0b - US$185m) (Based on the trailing twelve months to June 2024).

So, Silicon Motion Technology has an ROCE of 9.5%. In absolute terms, that's a low return but it's around the Semiconductor industry average of 9.0%.

Above you can see how the current ROCE for Silicon Motion Technology compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Silicon Motion Technology .

What The Trend Of ROCE Can Tell Us

In terms of Silicon Motion Technology's historical ROCE trend, it doesn't exactly demand attention. The company has consistently earned 9.5% for the last five years, and the capital employed within the business has risen 40% in that time. This poor ROCE doesn't inspire confidence right now, and with the increase in capital employed, it's evident that the business isn't deploying the funds into high return investments.

The Bottom Line On Silicon Motion Technology's ROCE

In summary, Silicon Motion Technology has simply been reinvesting capital and generating the same low rate of return as before. Since the stock has gained an impressive 79% over the last five years, investors must think there's better things to come. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

Like most companies, Silicon Motion Technology does come with some risks, and we've found 1 warning sign that you should be aware of.

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.