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When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that's often how a mature business shows signs of aging. Basically the company is earning less on its investments and it is also reducing its total assets. On that note, looking into MIND C.T.I (NASDAQ:MNDO), we weren't too upbeat about how things were going.
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. To calculate this metric for MIND C.T.I, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.20 = US$5.5m ÷ (US$32m - US$5.6m) (Based on the trailing twelve months to December 2020).
So, MIND C.T.I has an ROCE of 20%. In absolute terms that's a great return and it's even better than the Software industry average of 11%.
Historical performance is a great place to start when researching a stock so above you can see the gauge for MIND C.T.I's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of MIND C.T.I, check out these free graphs here.
What The Trend Of ROCE Can Tell Us
We are a bit worried about the trend of returns on capital at MIND C.T.I. Unfortunately the returns on capital have diminished from the 27% that they were earning five years ago. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on MIND C.T.I becoming one if things continue as they have.
The Key Takeaway
In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. The market must be rosy on the stock's future because even though the underlying trends aren't too encouraging, the stock has soared 142%. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.
If you want to continue researching MIND C.T.I, you might be interested to know about the 2 warning signs that our analysis has discovered.
If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets here.
This article by Simply Wall St is general in nature. 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.
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