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. 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. 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.

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. The formula for this calculation on Montage Technology is:

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

0.034 = CN¥355m ÷ (CN¥11b - CN¥370m) (Based on the trailing twelve months to March 2024).

So, Montage Technology has an ROCE of 3.4%. On its own, that's a low figure but it's around the 3.9% average generated by the Semiconductor industry.

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'd like, you can check out the forecasts from the analysts covering Montage Technology for free.

What The Trend Of ROCE Can Tell Us

In terms of Montage Technology's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 3.4% from 20% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. 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. And long term shareholders have watched their investments stay flat over the last three years. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

If you're still interested in Montage Technology it's worth checking out our FREE intrinsic value approximation for 688008 to see if it's trading at an attractive price in other respects.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com