Ignoring the stock price of a company, what are the underlying trends that tell us a business is past the growth phase? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. Basically the company is earning less on its investments and it is also reducing its total assets. Having said that, after a brief look, Oxford Metrics (LON:OMG) we aren't filled with optimism, but let's investigate further.
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. To calculate this metric for Oxford Metrics, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.048 = UK£1.7m ÷ (UK£46m - UK£10m) (Based on the trailing twelve months to September 2020).
Thus, Oxford Metrics has an ROCE of 4.8%. Ultimately, that's a low return and it under-performs the Software industry average of 7.4%.
In the above chart we have measured Oxford Metrics' prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Oxford Metrics here for free.
What Does the ROCE Trend For Oxford Metrics Tell Us?
In terms of Oxford Metrics' historical ROCE movements, the trend doesn't inspire confidence. To be more specific, the ROCE was 15% five years ago, but since then it has dropped noticeably. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Oxford Metrics becoming one if things continue as they have.
Our Take On Oxford Metrics' ROCE
In summary, it's unfortunate that Oxford Metrics is generating lower returns from the same amount of capital. Since the stock has skyrocketed 128% over the last five years, it looks like investors have high expectations of the stock. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.
One final note, you should learn about the 3 warning signs we've spotted with Oxford Metrics (including 1 which is significant) .
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