Investors Will Want Prime Focus' (NSE:PFOCUS) Growth In ROCE To Persist

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Speaking of which, we noticed some great changes in Prime Focus' (NSE:PFOCUS) returns on capital, so let's have a look.

What is 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 Prime Focus, this is the formula:

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

0.14 = ₹2.6b ÷ (₹54b - ₹35b) (Based on the trailing twelve months to December 2021).

Thus, Prime Focus has an ROCE of 14%. In absolute terms, that's a satisfactory return, but compared to the Entertainment industry average of 3.9% it's much better.

Check out our latest analysis for Prime Focus

Historical performance is a great place to start when researching a stock so above you can see the gauge for Prime Focus' ROCE against it's prior returns. If you're interested in investigating Prime Focus' past further, check out this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Prime Focus Tell Us?

Prime Focus is showing promise given that its ROCE is trending up and to the right. More specifically, while the company has kept capital employed relatively flat over the last five years, the ROCE has climbed 569% in that same time. So our take on this is that the business has increased efficiencies to generate these higher returns, all the while not needing to make any additional investments. The company is doing well in that sense, and it's worth investigating what the management team has planned for long term growth prospects.

On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Essentially the business now has suppliers or short-term creditors funding about 64% of its operations, which isn't ideal. And with current liabilities at those levels, that's pretty high.

In Conclusion...

To sum it up, Prime Focus is collecting higher returns from the same amount of capital, and that's impressive. Astute investors may have an opportunity here because the stock has declined 41% in the last five years. With that in mind, we believe the promising trends warrant this stock for further investigation.

One final note, you should learn about the 3 warning signs we've spotted with Prime Focus (including 1 which is a bit concerning) .

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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.