Capital Allocation Trends At Elco (TLV:ELCO) Aren't Ideal

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after briefly looking over the numbers, we don't think Elco (TLV:ELCO) 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?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. The formula for this calculation on Elco is:

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

0.025 = ₪390m ÷ (₪26b - ₪10b) (Based on the trailing twelve months to September 2024).

Thus, Elco has an ROCE of 2.5%. In absolute terms, that's a low return and it also under-performs the Construction industry average of 9.0%.

Check out our latest analysis for Elco

Historical performance is a great place to start when researching a stock so above you can see the gauge for Elco's ROCE against it's prior returns. If you'd like to look at how Elco has performed in the past in other metrics, you can view this free graph of Elco's past earnings, revenue and cash flow.

The Trend Of ROCE

On the surface, the trend of ROCE at Elco doesn't inspire confidence. Over the last five years, returns on capital have decreased to 2.5% from 9.2% five years ago. However it looks like Elco might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.

Another thing to note, Elco has a high ratio of current liabilities to total assets of 40%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

What We Can Learn From Elco's ROCE

In summary, Elco is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Since the stock has gained an impressive 52% over the last five years, investors must think there's better things to come. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

On a separate note, we've found 2 warning signs for Elco you'll probably want to know about.

While Elco 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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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.