Here's What To Make Of G8 Education's (ASX:GEM) Returns On Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. Having said that, from a first glance at G8 Education (ASX:GEM) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What is Return On Capital Employed (ROCE)?

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 G8 Education, this is the formula:

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

0.066 = AU$118m ÷ (AU$2.1b - AU$276m) (Based on the trailing twelve months to December 2020).

Therefore, G8 Education has an ROCE of 6.6%. In absolute terms, that's a low return and it also under-performs the Consumer Services industry average of 9.4%.

Check out our latest analysis for G8 Education

Above you can see how the current ROCE for G8 Education 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 G8 Education.

What Does the ROCE Trend For G8 Education Tell Us?

We weren't thrilled with the trend because G8 Education's ROCE has reduced by 56% over the last five years, while the business employed 85% more capital. That being said, G8 Education raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. G8 Education probably hasn't received a full year of earnings yet from the new funds it raised, so these figures should be taken with a grain of salt.

The Key Takeaway

We're a bit apprehensive about G8 Education because despite more capital being deployed in the business, returns on that capital and sales have both fallen. It should come as no surprise then that the stock has fallen 61% over the last five years, so it looks like investors are recognizing these changes. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.

G8 Education does have some risks though, and we've spotted 1 warning sign for G8 Education that you might be interested in.

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