Metcash (ASX:MTS) Has Some Way To Go To Become A Multi-Bagger

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. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. So, when we ran our eye over Metcash's (ASX:MTS) trend of ROCE, we liked what we saw.

Understanding Return On Capital Employed (ROCE)

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. The formula for this calculation on Metcash is:

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

0.17 = AU$450m ÷ (AU$5.5b - AU$2.8b) (Based on the trailing twelve months to October 2022).

Therefore, Metcash has an ROCE of 17%. By itself that's a normal return on capital and it's in line with the industry's average returns of 17%.

Check out our latest analysis for Metcash

Above you can see how the current ROCE for Metcash compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Metcash here for free.

So How Is Metcash's ROCE Trending?

While the current returns on capital are decent, they haven't changed much. Over the past five years, ROCE has remained relatively flat at around 17% and the business has deployed 38% more capital into its operations. 17% is a pretty standard return, and it provides some comfort knowing that Metcash has consistently earned this amount. Stable returns in this ballpark can be unexciting, but if they can be maintained over the long run, they often provide nice rewards to shareholders.

Another thing to note, Metcash has a high ratio of current liabilities to total assets of 51%. 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. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Bottom Line

The main thing to remember is that Metcash has proven its ability to continually reinvest at respectable rates of return. Therefore it's no surprise that shareholders have earned a respectable 57% return if they held over the last five years. So while the positive underlying trends may be accounted for by investors, we still think this stock is worth looking into further.

One more thing, we've spotted 1 warning sign facing Metcash that you might find interesting.

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.