Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Speaking of which, we noticed some great changes in Digitalbox's (LON:DBOX) returns on capital, so let's have a look.
What is 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 Digitalbox:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.077 = UK£887k ÷ (UK£12m - UK£435k) (Based on the trailing twelve months to June 2020).
Therefore, Digitalbox has an ROCE of 7.7%. On its own that's a low return, but compared to the average of 5.5% generated by the Interactive Media and Services industry, it's much better.
While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how Digitalbox has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
What Can We Tell From Digitalbox's ROCE Trend?
Digitalbox has broken into the black (profitability) and we're sure it's a sight for sore eyes. The company was generating losses one year ago, but has managed to turn it around and as we saw earlier is now earning 7.7%, which is always encouraging. On top of that, what's interesting is that the amount of capital being employed has remained steady, so the business hasn't needed to put any additional money to work to generate these higher returns. That being said, while an increase in efficiency is no doubt appealing, it'd be helpful to know if the company does have any investment plans going forward. After all, a company can only become a long term multi-bagger if it continually reinvests in itself at high rates of return.
What We Can Learn From Digitalbox's ROCE
To bring it all together, Digitalbox has done well to increase the returns it's generating from its capital employed. Since the total return from the stock has been almost flat over the last year, 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.
Digitalbox does have some risks, we noticed 3 warning signs (and 1 which makes us a bit uncomfortable) we think you should know about.
While Digitalbox isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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