What trends should we look for it we want to identify stocks that can multiply in value over the long term? 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. In light of that, when we looked at LUSTER LightTech (SHSE:688400) and its ROCE trend, we weren't exactly thrilled.

What Is 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. The formula for this calculation on LUSTER LightTech is:

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

0.002 = CN¥8.5m ÷ (CN¥5.0b - CN¥731m) (Based on the trailing twelve months to June 2024).

Thus, LUSTER LightTech has an ROCE of 0.2%. In absolute terms, that's a low return and it also under-performs the Electronic industry average of 5.4%.

In the above chart we have measured LUSTER LightTech'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 LUSTER LightTech for free.

What Does the ROCE Trend For LUSTER LightTech Tell Us?

Unfortunately, the trend isn't great with ROCE falling from 10% five years ago, while capital employed has grown 509%. However, some of the increase in capital employed could be attributed to the recent capital raising that's been completed prior to their latest reporting period, so keep that in mind when looking at the ROCE decrease. The funds raised likely haven't been put to work yet so it's worth watching what happens in the future with LUSTER LightTech's earnings and if they change as a result from the capital raise.

On a related note, LUSTER LightTech has decreased its current liabilities to 15% 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...

From the above analysis, we find it rather worrisome that returns on capital and sales for LUSTER LightTech 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 30% over the last year, so it looks like investors are recognizing these changes. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

If you want to continue researching LUSTER LightTech, you might be interested to know about the 1 warning sign that our analysis has discovered.

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.