Here's What To Make Of Cerillion's (LON:CER) 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after investigating Cerillion (LON:CER), we don't think it's current trends fit the mold of a multi-bagger.

What is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on Cerillion is:

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

0.13 = UK£2.8m ÷ (UK£32m - UK£11m) (Based on the trailing twelve months to September 2020).

Therefore, Cerillion has an ROCE of 13%. On its own, that's a standard return, however it's much better than the 7.4% generated by the Software industry.

See our latest analysis for Cerillion

Above you can see how the current ROCE for Cerillion 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.

The Trend Of ROCE

On the surface, the trend of ROCE at Cerillion doesn't inspire confidence. To be more specific, ROCE has fallen from 19% over the last five years. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

What We Can Learn From Cerillion's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Cerillion is reinvesting for growth and has higher sales as a result. And long term investors must be optimistic going forward because the stock has returned a huge 208% to shareholders in the last three years. So should these growth trends continue, we'd be optimistic on the stock going forward.

One more thing to note, we've identified 1 warning sign with Cerillion and understanding this should be part of your investment process.

While Cerillion 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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