Here's What To Make Of Inghams Group's (ASX:ING) Returns On Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look 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. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after investigating Inghams Group (ASX:ING), we don't think it's current trends fit the mold of a multi-bagger.

What is Return On Capital Employed (ROCE)?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Inghams Group:

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

0.065 = AU$124m ÷ (AU$2.6b - AU$672m) (Based on the trailing twelve months to June 2020).

Therefore, Inghams Group has an ROCE of 6.5%. On its own that's a low return, but compared to the average of 5.2% generated by the Food industry, it's much better.

Check out our latest analysis for Inghams Group

In the above chart we have measured Inghams Group's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Inghams Group here for free.

What Does the ROCE Trend For Inghams Group Tell Us?

When we looked at the ROCE trend at Inghams Group, we didn't gain much confidence. Around five years ago the returns on capital were 16%, but since then they've fallen to 6.5%. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a related note, Inghams Group has decreased its current liabilities to 26% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line

Bringing it all together, while we're somewhat encouraged by Inghams Group's reinvestment in its own business, we're aware that returns are shrinking. And investors may be recognizing these trends since the stock has only returned a total of 19% to shareholders over the last three years. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.

One final note, you should learn about the 3 warning signs we've spotted with Inghams Group (including 1 which doesn't sit too well with us) .

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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