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. 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. However, after briefly looking over the numbers, we don't think Nexteer Automotive Group (HKG:1316) has the makings of a multi-bagger going forward, but let's have a look at why that may be.
Return On Capital Employed (ROCE): What is it?
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 Nexteer Automotive Group is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.075 = US$165m ÷ (US$3.3b - US$1.1b) (Based on the trailing twelve months to December 2020).
Thus, Nexteer Automotive Group has an ROCE of 7.5%. On its own that's a low return on capital but it's in line with the industry's average returns of 8.4%.
In the above chart we have measured Nexteer Automotive Group'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 report for Nexteer Automotive Group.
What Can We Tell From Nexteer Automotive Group's ROCE Trend?
In terms of Nexteer Automotive Group's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 20%, but since then they've fallen to 7.5%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.
The Bottom Line On Nexteer Automotive Group's ROCE
We're a bit apprehensive about Nexteer Automotive Group because despite more capital being deployed in the business, returns on that capital and sales have both fallen. However the stock has delivered a 48% return to shareholders over the last five years, so investors might be expecting the trends to turn around. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.
Like most companies, Nexteer Automotive Group does come with some risks, and we've found 2 warning signs that you should be aware of.
While Nexteer Automotive Group 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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