Wavestone (EPA:WAVE) Knows How To Allocate Capital Effectively

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. And in light of that, the trends we're seeing at Wavestone's (EPA:WAVE) look very promising so lets take a look.

Understanding Return On Capital Employed (ROCE)

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for Wavestone:

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

0.26 = €77m ÷ (€436m - €135m) (Based on the trailing twelve months to September 2021).

Therefore, Wavestone has an ROCE of 26%. In absolute terms that's a great return and it's even better than the IT industry average of 12%.

Check out our latest analysis for Wavestone

Above you can see how the current ROCE for Wavestone compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Wavestone.

What Can We Tell From Wavestone's ROCE Trend?

Wavestone is displaying some positive trends. Over the last five years, returns on capital employed have risen substantially to 26%. Basically the business is earning more per dollar of capital invested and in addition to that, 55% more capital is being employed now too. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

Our Take On Wavestone's ROCE

A company that is growing its returns on capital and can consistently reinvest in itself is a highly sought after trait, and that's what Wavestone has. And with the stock having performed exceptionally well over the last five years, these patterns are being accounted for by investors. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.

On a separate note, we've found 1 warning sign for Wavestone you'll probably want to know about.

Wavestone is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.

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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.