Capital Allocation Trends At Alkemy (BIT:ALK) Aren't Ideal

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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 Alkemy (BIT:ALK) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What is Return On Capital Employed (ROCE)?

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. To calculate this metric for Alkemy, this is the formula:

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

0.12 = €7.6m ÷ (€104m - €39m) (Based on the trailing twelve months to December 2021).

Thus, Alkemy has an ROCE of 12%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Professional Services industry average of 11%.

Check out our latest analysis for Alkemy

Above you can see how the current ROCE for Alkemy compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Alkemy here for free.

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at Alkemy doesn't inspire confidence. To be more specific, ROCE has fallen from 17% over the last five years. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

The Bottom Line

While returns have fallen for Alkemy in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. In light of this, the stock has only gained 18% over the last three years. So this stock may still be an appealing investment opportunity, if other fundamentals prove to be sound.

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

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.