The Returns At McMillan Shakespeare (ASX:MMS) Aren't Growing

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Looking at McMillan Shakespeare (ASX:MMS), it does have a high ROCE right now, but lets see how returns are trending.

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 McMillan Shakespeare, this is the formula:

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

0.22 = AU$156m ÷ (AU$1.3b - AU$581m) (Based on the trailing twelve months to June 2024).

Thus, McMillan Shakespeare has an ROCE of 22%. On its own, that's a very good return and it's on par with the returns earned by companies in a similar industry.

View our latest analysis for McMillan Shakespeare

Above you can see how the current ROCE for McMillan Shakespeare compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for McMillan Shakespeare .

What The Trend Of ROCE Can Tell Us

Things have been pretty stable at McMillan Shakespeare, with its capital employed and returns on that capital staying somewhat the same for the last five years. Businesses with these traits tend to be mature and steady operations because they're past the growth phase. So while the current operations are delivering respectable returns, unless capital employed increases we'd be hard-pressed to believe it's a multi-bagger going forward. That being the case, it makes sense that McMillan Shakespeare has been paying out 92% of its earnings to its shareholders. Most shareholders probably know this and own the stock for its dividend.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 45% of total assets, this reported ROCE would probably be less than22% because total capital employed would be higher.The 22% ROCE could be even lower if current liabilities weren't 45% of total assets, because the the formula would show a larger base of total capital employed. Additionally, this high level of current liabilities isn't ideal because it means the company's suppliers (or short-term creditors) are effectively funding a large portion of the business.

What We Can Learn From McMillan Shakespeare's ROCE

In summary, McMillan Shakespeare isn't compounding its earnings but is generating decent returns on the same amount of capital employed. Unsurprisingly, the stock has only gained 28% over the last five years, which potentially indicates that investors are accounting for this going forward. As a result, if you're hunting for a multi-bagger, we think you'd have more luck elsewhere.

McMillan Shakespeare does have some risks though, and we've spotted 3 warning signs for McMillan Shakespeare that you might be interested in.

High returns are a key ingredient to strong performance, so check out our free list ofstocks earning high returns on equity with solid balance sheets.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.