Slowing Rates Of Return At Downer EDI (ASX:DOW) Leave Little Room For Excitement

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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. In light of that, when we looked at Downer EDI (ASX:DOW) and its ROCE trend, we weren't exactly thrilled.

Return On Capital Employed (ROCE): What Is It?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Downer EDI, this is the formula:

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

0.043 = AU$193m ÷ (AU$7.3b - AU$2.9b) (Based on the trailing twelve months to June 2023).

Therefore, Downer EDI has an ROCE of 4.3%. In absolute terms, that's a low return and it also under-performs the Commercial Services industry average of 7.8%.

View our latest analysis for Downer EDI

In the above chart we have measured Downer EDI's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What Can We Tell From Downer EDI's ROCE Trend?

Over the past five years, Downer EDI's ROCE and capital employed have both remained mostly flat. It's not uncommon to see this when looking at a mature and stable business that isn't re-investing its earnings because it has likely passed that phase of the business cycle. With that in mind, unless investment picks up again in the future, we wouldn't expect Downer EDI to be a multi-bagger going forward. On top of that you'll notice that Downer EDI has been paying out a large portion (66%) of earnings in the form of dividends to shareholders. Most shareholders probably know this and own the stock for its dividend.

What We Can Learn From Downer EDI's ROCE

We can conclude that in regards to Downer EDI's returns on capital employed and the trends, there isn't much change to report on. Since the stock has declined 21% over the last five years, investors may not be too optimistic on this trend improving either. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.

If you want to continue researching Downer EDI, 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.