Returns On Capital Signal Tricky Times Ahead For Amadeus IT Group (BME:AMS)

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. In light of that, when we looked at Amadeus IT Group (BME:AMS) and its ROCE trend, we weren't exactly thrilled.

Understanding Return On Capital Employed (ROCE)

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Amadeus IT Group:

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

0.078 = €749m ÷ (€12b - €2.3b) (Based on the trailing twelve months to September 2022).

Thus, Amadeus IT Group has an ROCE of 7.8%. Ultimately, that's a low return and it under-performs the IT industry average of 11%.

Check out our latest analysis for Amadeus IT Group

In the above chart we have measured Amadeus IT Group'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 Amadeus IT Group.

What The Trend Of ROCE Can Tell Us

In terms of Amadeus IT Group's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 22% over the last five 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

The Bottom Line

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Amadeus IT Group. These trends are starting to be recognized by investors since the stock has delivered a 0.9% gain to shareholders who've held 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.

One more thing to note, we've identified 1 warning sign with Amadeus IT Group and understanding this should be part of your investment process.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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.