Returns At Gear4music (Holdings) (LON:G4M) Are On The Way Up

What trends should we look for it we want to identify stocks that can multiply in value over the long term? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Speaking of which, we noticed some great changes in Gear4music (Holdings)'s (LON:G4M) returns on capital, so let's have a look.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Gear4music (Holdings):

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

0.046 = UK£2.8m ÷ (UK£75m - UK£15m) (Based on the trailing twelve months to March 2024).

So, Gear4music (Holdings) has an ROCE of 4.6%. In absolute terms, that's a low return and it also under-performs the Specialty Retail industry average of 12%.

See our latest analysis for Gear4music (Holdings)

In the above chart we have measured Gear4music (Holdings)'s prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Gear4music (Holdings) .

So How Is Gear4music (Holdings)'s ROCE Trending?

Even though ROCE is still low in absolute terms, it's good to see it's heading in the right direction. Over the last five years, returns on capital employed have risen substantially to 4.6%. Basically the business is earning more per dollar of capital invested and in addition to that, 148% more capital is being employed now too. So we're very much inspired by what we're seeing at Gear4music (Holdings) thanks to its ability to profitably reinvest capital.

One more thing to note, Gear4music (Holdings) has decreased current liabilities to 20% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. So this improvement in ROCE has come from the business' underlying economics, which is great to see.

The Bottom Line On Gear4music (Holdings)'s ROCE

In summary, it's great to see that Gear4music (Holdings) 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 21% in the last five years. That being the case, research into the company's current valuation metrics and future prospects seems fitting.

One more thing to note, we've identified 2 warning signs with Gear4music (Holdings) and understanding these should be part of your investment process.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com