If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's 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 looked at Spin Master (TSE:TOY), they do have a high ROCE, but we weren't exactly elated from how returns are trending.
Return On Capital Employed (ROCE): What is it?
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. Analysts use this formula to calculate it for Spin Master:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.28 = US$347m ÷ (US$1.6b - US$369m) (Based on the trailing twelve months to March 2022).
Therefore, Spin Master has an ROCE of 28%. That's a fantastic return and not only that, it outpaces the average of 22% earned by companies in a similar industry.
Above you can see how the current ROCE for Spin Master 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 Spin Master.
What Can We Tell From Spin Master's ROCE Trend?
On the surface, the trend of ROCE at Spin Master doesn't inspire confidence. Historically returns on capital were even higher at 45%, but they have dropped over the last five years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.
On a related note, Spin Master has decreased its current liabilities to 23% 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. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.
Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Spin Master. In light of this, the stock has only gained 14% over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.
Spin Master could be trading at an attractive price in other respects, so you might find our free intrinsic value estimation on our platform quite valuable.
If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets 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.