Tech Mahindra (NSE:TECHM) Is Very Good At Capital Allocation

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So when we looked at the ROCE trend of Tech Mahindra (NSE:TECHM) we really liked what we saw.

Return On Capital Employed (ROCE): What Is It?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for Tech Mahindra:

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

0.20 = ₹64b ÷ (₹449b - ₹125b) (Based on the trailing twelve months to June 2022).

Therefore, Tech Mahindra has an ROCE of 20%. In absolute terms that's a great return and it's even better than the IT industry average of 12%.

See our latest analysis for Tech Mahindra

Above you can see how the current ROCE for Tech Mahindra compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What Does the ROCE Trend For Tech Mahindra Tell Us?

The trends we've noticed at Tech Mahindra are quite reassuring. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 20%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 64%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

The Key Takeaway

To sum it up, Tech Mahindra has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And with the stock having performed exceptionally well over the last five years, these patterns are being accounted for by investors. In light of that, we think it's worth looking further into this stock because if Tech Mahindra can keep these trends up, it could have a bright future ahead.

One more thing, we've spotted 1 warning sign facing Tech Mahindra that you might find interesting.

If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets here.

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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.