Knorr-Bremse (ETR:KBX) Is Reinvesting At Lower Rates Of Return

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. So when we looked at Knorr-Bremse (ETR:KBX), they do have a high ROCE, but we weren't exactly elated from how returns are trending.

What is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Knorr-Bremse, this is the formula:

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

0.20 = €920m ÷ (€7.2b - €2.7b) (Based on the trailing twelve months to December 2021).

Thus, Knorr-Bremse has an ROCE of 20%. That's a fantastic return and not only that, it outpaces the average of 8.6% earned by companies in a similar industry.

Check out our latest analysis for Knorr-Bremse

In the above chart we have measured Knorr-Bremse's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Knorr-Bremse.

The Trend Of ROCE

When we looked at the ROCE trend at Knorr-Bremse, we didn't gain much confidence. While it's comforting that the ROCE is high, five years ago it was 29%. 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.

The Key Takeaway

Bringing it all together, while we're somewhat encouraged by Knorr-Bremse's reinvestment in its own business, we're aware that returns are shrinking. Since the stock has declined 15% over the last three years, investors may not be too optimistic on this trend improving either. Therefore based on the analysis done in this article, we don't think Knorr-Bremse has the makings of a multi-bagger.

One more thing, we've spotted 2 warning signs facing Knorr-Bremse that you might find interesting.

High returns are a key ingredient to strong performance, so check out our free list ofstocks 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.