Here's What To Make Of Nestlé's (VTX:NESN) Returns On Capital

There are a few key trends to look for if we want to identify the next multi-bagger. 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after investigating Nestlé (VTX:NESN), we don't think it's current trends fit the mold of a multi-bagger.

Return On Capital Employed (ROCE): What is it?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Nestlé is:

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

0.17 = CHF15b ÷ (CHF124b - CHF40b) (Based on the trailing twelve months to December 2020).

Thus, Nestlé has an ROCE of 17%. On its own, that's a standard return, however it's much better than the 8.8% generated by the Food industry.

Check out our latest analysis for Nestlé

Above you can see how the current ROCE for Nestlé compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

The Trend Of ROCE

Over the past five years, Nestlé's ROCE and capital employed have both remained mostly flat. This tells us the company isn't reinvesting in itself, so it's plausible that it's past the growth phase. So don't be surprised if Nestlé doesn't end up being a multi-bagger in a few years time. That probably explains why Nestlé has been paying out 62% of its earnings as dividends to shareholders. These mature businesses typically have reliable earnings and not many places to reinvest them, so the next best option is to put the earnings into shareholders pockets.

The Bottom Line On Nestlé's ROCE

In a nutshell, Nestlé has been trudging along with the same returns from the same amount of capital over the last five years. Although the market must be expecting these trends to improve because the stock has gained 62% over the last five years. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

One more thing, we've spotted 1 warning sign facing Nestlé that you might find interesting.

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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