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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at Iberpapel Gestión (BME:IBG), it didn't seem to tick all of these boxes.
What is Return On Capital Employed (ROCE)?
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. The formula for this calculation on Iberpapel Gestión is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.0046 = €1.6m ÷ (€385m - €35m) (Based on the trailing twelve months to September 2020).
So, Iberpapel Gestión has an ROCE of 0.5%. Ultimately, that's a low return and it under-performs the Forestry industry average of 5.6%.
In the above chart we have measured Iberpapel Gestión'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 Iberpapel Gestión.
How Are Returns Trending?
When we looked at the ROCE trend at Iberpapel Gestión, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 0.5% from 5.6% five years ago. Given the business is employing more capital while revenue has slipped, this is a bit concerning. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.
The Bottom Line
We're a bit apprehensive about Iberpapel Gestión because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Investors must expect better things on the horizon though because the stock has risen 22% in the last five years. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.
Like most companies, Iberpapel Gestión does come with some risks, and we've found 2 warning signs that you should be aware of.
While Iberpapel Gestión 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. 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.
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