If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Although, when we looked at CLPS Incorporation (NASDAQ:CLPS), it didn't seem to tick all of these boxes.
Return On Capital Employed (ROCE): What Is It?
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested 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)
0.036 = US$2.5m ÷ (US$95m - US$26m) (Based on the trailing twelve months to June 2023).
Thus, CLPS Incorporation has an ROCE of 3.6%. Ultimately, that's a low return and it under-performs the IT industry average of 12%.
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.
The Trend Of ROCE
When we looked at the ROCE trend at CLPS Incorporation, we didn't gain much confidence. Around five years ago the returns on capital were 9.5%, but since then they've fallen to 3.6%. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.
On a side note, CLPS Incorporation has done well to pay down its current liabilities to 28% of total assets. So we could link some of this to the decrease in ROCE. 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. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.
Bringing it all together, while we're somewhat encouraged by CLPS Incorporation's reinvestment in its own business, we're aware that returns are shrinking. It seems that investors have little hope of these trends getting any better and that may have partly contributed to the stock collapsing 77% in the last five years. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.
If you'd like to know about the risks facing CLPS Incorporation, we've discovered 4 warning signs that you should be aware of.
While CLPS Incorporation may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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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.