There's Been No Shortage Of Growth Recently For Cogstate's (ASX:CGS) Returns On Capital

There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Speaking of which, we noticed some great changes in Cogstate's (ASX:CGS) returns on capital, so let's have a look.

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 Cogstate is:

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

0.10 = US$4.1m ÷ (US$52m - US$12m) (Based on the trailing twelve months to December 2023).

Thus, Cogstate has an ROCE of 10%. That's a pretty standard return and it's in line with the industry average of 9.7%.

View our latest analysis for Cogstate

In the above chart we have measured Cogstate'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 Cogstate for free.

How Are Returns Trending?

We're delighted to see that Cogstate is reaping rewards from its investments and is now generating some pre-tax profits. The company was generating losses five years ago, but now it's earning 10% which is a sight for sore eyes. And unsurprisingly, like most companies trying to break into the black, Cogstate is utilizing 275% more capital than it was five years ago. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.

In another part of our analysis, we noticed that the company's ratio of current liabilities to total assets decreased to 22%, which broadly means the business is relying less on its suppliers or short-term creditors to fund its operations. So shareholders would be pleased that the growth in returns has mostly come from underlying business performance.

What We Can Learn From Cogstate's ROCE

To the delight of most shareholders, Cogstate has now broken into profitability. Since the stock has returned a staggering 572% to shareholders over the last five years, it looks like investors are recognizing these changes. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.

Cogstate does have some risks though, and we've spotted 2 warning signs for Cogstate that you might be interested in.

While Cogstate may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.

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