Did you know there are some financial metrics that can provide clues of a potential multi-bagger? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. With that in mind, we've noticed some promising trends at Mecelec Composites (EPA:ALMEC) so let's look a bit deeper.
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. The formula for this calculation on Mecelec Composites is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.012 = €188k ÷ (€32m - €16m) (Based on the trailing twelve months to June 2020).
So, Mecelec Composites has an ROCE of 1.2%. Ultimately, that's a low return and it under-performs the Electrical industry average of 10%.
In the above chart we have measured Mecelec Composites' prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Mecelec Composites here for free.
How Are Returns Trending?
We're delighted to see that Mecelec Composites is reaping rewards from its investments and is now generating some pre-tax profits. About five years ago the company was generating losses but things have turned around because it's now earning 1.2% on its capital. And unsurprisingly, like most companies trying to break into the black, Mecelec Composites is utilizing 20% more capital than it was five years ago. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.
Another thing to note, Mecelec Composites has a high ratio of current liabilities to total assets of 49%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
Our Take On Mecelec Composites' ROCE
Long story short, we're delighted to see that Mecelec Composites' reinvestment activities have paid off and the company is now profitable. Since the total return from the stock has been almost flat over the last five years, there might be an opportunity here if the valuation looks good. That being the case, research into the company's current valuation metrics and future prospects seems fitting.
On a final note, we've found 1 warning sign for Mecelec Composites that we think you should be aware of.
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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