If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Although, when we looked at Rectifier Technologies (ASX:RFT), it didn't seem to tick all of these boxes.

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 Rectifier Technologies, this is the formula:

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

0.04 = AU$803k ÷ (AU$32m - AU$12m) (Based on the trailing twelve months to June 2024).

Thus, Rectifier Technologies has an ROCE of 4.0%. In absolute terms, that's a low return and it also under-performs the Electrical industry average of 12%.

See our latest analysis for Rectifier Technologies

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Rectifier Technologies' past further, check out this free graph covering Rectifier Technologies' past earnings, revenue and cash flow.

The Trend Of ROCE

On the surface, the trend of ROCE at Rectifier Technologies doesn't inspire confidence. Over the last five years, returns on capital have decreased to 4.0% from 37% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

The Key Takeaway

From the above analysis, we find it rather worrisome that returns on capital and sales for Rectifier Technologies have fallen, meanwhile the business is employing more capital than it was five years ago. This could explain why the stock has sunk a total of 72% in the last five years. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

One more thing: We've identified 3 warning signs with Rectifier Technologies (at least 2 which can't be ignored) , and understanding them would certainly be useful.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive 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.