Armac Locação Logística e Serviços (BVMF:ARML3) May Have Issues Allocating Its Capital

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. 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. However, after briefly looking over the numbers, we don't think Armac Locação Logística e Serviços (BVMF:ARML3) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Return On Capital Employed (ROCE): What Is It?

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 Armac Locação Logística e Serviços, this is the formula:

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

0.082 = R$221m ÷ (R$3.0b - R$279m) (Based on the trailing twelve months to September 2022).

Therefore, Armac Locação Logística e Serviços has an ROCE of 8.2%. In absolute terms, that's a low return and it also under-performs the Trade Distributors industry average of 18%.

Check out our latest analysis for Armac Locação Logística e Serviços

Above you can see how the current ROCE for Armac Locação Logística e Serviços 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 Armac Locação Logística e Serviços.

How Are Returns Trending?

When we looked at the ROCE trend at Armac Locação Logística e Serviços, we didn't gain much confidence. To be more specific, ROCE has fallen from 27% over the last three years. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, Armac Locação Logística e Serviços has decreased its current liabilities to 9.4% of total assets. So we could link some of this to the decrease in ROCE. 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.

What We Can Learn From Armac Locação Logística e Serviços' ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Armac Locação Logística e Serviços is reinvesting for growth and has higher sales as a result. And there could be an opportunity here if other metrics look good too, because the stock has declined 48% in the last year. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

One more thing: We've identified 2 warning signs with Armac Locação Logística e Serviços (at least 1 which is concerning) , and understanding them would certainly be useful.

While Armac Locação Logística e Serviços isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.