Thales (EPA:HO) Has More To Do To Multiply In Value Going Forward

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. That's why when we briefly looked at Thales' (EPA:HO) ROCE trend, we were pretty happy with what we saw.

Understanding 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. Analysts use this formula to calculate it for Thales:

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

0.11 = €1.5b ÷ (€34b - €21b) (Based on the trailing twelve months to December 2022).

Thus, Thales has an ROCE of 11%. In absolute terms, that's a satisfactory return, but compared to the Aerospace & Defense industry average of 9.0% it's much better.

View our latest analysis for Thales

In the above chart we have measured Thales' 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 Thales' ROCE Trend?

The trend of ROCE doesn't stand out much, but returns on a whole are decent. The company has employed 52% more capital in the last five years, and the returns on that capital have remained stable at 11%. 11% is a pretty standard return, and it provides some comfort knowing that Thales has consistently earned this amount. Stable returns in this ballpark can be unexciting, but if they can be maintained over the long run, they often provide nice rewards to shareholders.

On a side note, Thales' current liabilities are still rather high at 60% of total assets. 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.

The Bottom Line

To sum it up, Thales has simply been reinvesting capital steadily, at those decent rates of return. However, over the last five years, the stock has only delivered a 25% return to shareholders who held over that period. So because of the trends we're seeing, we'd recommend looking further into this stock to see if it has the makings of a multi-bagger.

If you want to continue researching Thales, you might be interested to know about the 1 warning sign that our analysis has discovered.

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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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.