If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at FedEx (NYSE:FDX), it didn’t seem to tick all of these boxes.
Return On Capital Employed (ROCE): What is it?
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 FedEx, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.043 = US$2.7b ÷ (US$74b – US$10b) (Based on the trailing twelve months to May 2020).
Thus, FedEx has an ROCE of 4.3%. In absolute terms, that’s a low return and it also under-performs the Logistics industry average of 7.8%.
Above you can see how the current ROCE for FedEx compares to its prior returns on capital, but there’s only so much you can tell from the past. If you’d like to see what analysts are forecasting going forward, you should check out our free report for FedEx.
What The Trend Of ROCE Can Tell Us
In terms of FedEx’s historical ROCE movements, the trend isn’t fantastic. To be more specific, ROCE has fallen from 15% over the last five years. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. 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.
The Key Takeaway
To conclude, we’ve found that FedEx is reinvesting in the business, but returns have been falling. Although the market must be expecting these trends to improve because the stock has gained 62% over the last five years. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn’t high.
One more thing, we’ve spotted 4 warning signs facing FedEx that you might find interesting.
While FedEx 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. 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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