Should You Be Impressed By Johnson Service Group's (LON:JSG) Returns on Capital?

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. However, after investigating Johnson Service Group (LON:JSG), we don't think it's current trends fit the mold of a multi-bagger.

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 Johnson Service Group:

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

0.03 = UK£9.9m ÷ (UK£405m - UK£79m) (Based on the trailing twelve months to June 2020).

Thus, Johnson Service Group has an ROCE of 3.0%. Ultimately, that's a low return and it under-performs the Commercial Services industry average of 10.0%.

See our latest analysis for Johnson Service Group

Above you can see how the current ROCE for Johnson Service Group 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 Johnson Service Group.

How Are Returns Trending?

Unfortunately, the trend isn't great with ROCE falling from 11% five years ago, while capital employed has grown 64%. That being said, Johnson Service Group raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. Johnson Service Group probably hasn't received a full year of earnings yet from the new funds it raised, so these figures should be taken with a grain of salt.

The Bottom Line

We're a bit apprehensive about Johnson Service Group because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Yet despite these concerning fundamentals, the stock has performed strongly with a 98% return over the last five years, so investors appear very optimistic. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

One more thing to note, we've identified 2 warning signs with Johnson Service Group and understanding these should be part of your investment process.

While Johnson Service Group 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. 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.
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