Will Del Monte Pacific's (SGX:D03) Growth In ROCE Persist?

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out 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. So on that note, Del Monte Pacific (SGX:D03) looks quite promising in regards to its trends of return on capital.

Understanding Return On Capital Employed (ROCE)

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 Del Monte Pacific, this is the formula:

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

0.024 = US$39m ÷ (US$2.7b - US$1.1b) (Based on the trailing twelve months to January 2020).

Therefore, Del Monte Pacific has an ROCE of 2.4%. Ultimately, that's a low return and it under-performs the Food industry average of 8.5%.

See our latest analysis for Del Monte Pacific

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'd like to look at how Del Monte Pacific has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Del Monte Pacific Tell Us?

Del Monte Pacific has broken into the black (profitability) and we're sure it's a sight for sore eyes. The company was generating losses five years ago, but has managed to turn it around and as we saw earlier is now earning 2.4%, which is always encouraging. Interestingly, the capital employed by the business has remained relatively flat, so these higher returns are either from prior investments paying off or increased efficiencies. So while we're happy that the business is more efficient, just keep in mind that could mean that going forward the business is lacking areas to invest internally for growth. So if you're looking for high growth, you'll want to see a business's capital employed also increasing.

On a separate but related note, it's important to know that Del Monte Pacific has a current liabilities to total assets ratio of 41%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

What We Can Learn From Del Monte Pacific's ROCE

As discussed above, Del Monte Pacific appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. However the stock is down a substantial 71% in the last five years so there could be other areas of the business hurting its prospects. In any case, we believe the economic trends of this company are positive and looking into the stock further could prove rewarding.

One more thing: We've identified 2 warning signs with Del Monte Pacific (at least 1 which is potentially serious) , and understanding these would certainly be useful.

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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