M&C Saatchi (LON:SAA): Are Investors Overlooking Returns On Capital?

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. So when we looked at the ROCE trend of M&C Saatchi (LON:SAA) we really liked what we saw.

Return On Capital Employed (ROCE): What is it?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for M&C Saatchi, this is the formula:

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

0.30 = UK£32m ÷ (UK£312m - UK£205m) (Based on the trailing twelve months to June 2020).

Therefore, M&C Saatchi has an ROCE of 30%. That's a fantastic return and not only that, it outpaces the average of 9.2% earned by companies in a similar industry.

See our latest analysis for M&C Saatchi

Above you can see how the current ROCE for M&C Saatchi compares to its prior returns on capital, but there's only so much you can tell from the past. 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 M&C Saatchi's ROCE Trend?

Investors would be pleased with what's happening at M&C Saatchi. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 30%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 39%. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.

On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Effectively this means that suppliers or short-term creditors are now funding 66% of the business, which is more than it was five years ago. Given it's pretty high ratio, we'd remind investors that having current liabilities at those levels can bring about some risks in certain businesses.

The Key Takeaway

In summary, it's great to see that M&C Saatchi can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. Astute investors may have an opportunity here because the stock has declined 42% in the last five years. With that in mind, we believe the promising trends warrant this stock for further investigation.

One more thing: We've identified 4 warning signs with M&C Saatchi (at least 2 which can't be ignored) , and understanding them would certainly be useful.

M&C Saatchi 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. 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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