Red Eléctrica Corporación (BME:RED) Is Reinvesting At Lower Rates Of Return

To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, from a first glance at Red Eléctrica Corporación (BME:RED) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. Analysts use this formula to calculate it for Red Eléctrica Corporación:

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

0.075 = €890m ÷ (€15b - €2.9b) (Based on the trailing twelve months to March 2023).

Thus, Red Eléctrica Corporación has an ROCE of 7.5%. On its own, that's a low figure but it's around the 9.1% average generated by the Electric Utilities industry.

View our latest analysis for Red Eléctrica Corporación

In the above chart we have measured Red Eléctrica Corporación's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What Can We Tell From Red Eléctrica Corporación's ROCE Trend?

When we looked at the ROCE trend at Red Eléctrica Corporación, we didn't gain much confidence. To be more specific, ROCE has fallen from 11% over the last five years. 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 may take some time before the company starts to see any change in earnings from these investments.

Our Take On Red Eléctrica Corporación's ROCE

In summary, Red Eléctrica Corporación is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Unsurprisingly, the stock has only gained 14% over the last five years, which potentially indicates that investors are accounting for this going forward. As a result, if you're hunting for a multi-bagger, we think you'd have more luck elsewhere.

On a final note, we found 2 warning signs for Red Eléctrica Corporación (1 doesn't sit too well with us) you should be aware of.

While Red Eléctrica Corporación 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. 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.