There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. That's why when we briefly looked at ITC's (NSE:ITC) ROCE trend, we were very happy with what we saw.
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. The formula for this calculation on ITC is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.24 = ₹154b ÷ (₹738b - ₹107b) (Based on the trailing twelve months to March 2021).
Thus, ITC has an ROCE of 24%. In absolute terms that's a very respectable return and compared to the Tobacco industry average of 21% it's pretty much on par.
In the above chart we have measured ITC'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 ITC.
What The Trend Of ROCE Can Tell Us
In terms of ITC's history of ROCE, it's quite impressive. The company has employed 40% more capital in the last five years, and the returns on that capital have remained stable at 24%. Returns like this are the envy of most businesses and given it has repeatedly reinvested at these rates, that's even better. If these trends can continue, it wouldn't surprise us if the company became a multi-bagger.
The Key Takeaway
In short, we'd argue ITC has the makings of a multi-bagger since its been able to compound its capital at very profitable rates of return. However, over the last five years, the stock hasn't provided much growth to shareholders in the way of total returns. That's why we think it'd be worthwhile to look further into this stock given the fundamentals are appealing.
On a final note, we've found 1 warning sign for ITC that we think you should be aware of.
If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning high returns on equity.
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