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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. So on that note, Koninklijke BAM Groep (AMS:BAMNB) looks quite promising in regards to its trends of return on capital.
Understanding 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. Analysts use this formula to calculate it for Koninklijke BAM Groep:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.023 = €32m ÷ (€4.5b - €3.2b) (Based on the trailing twelve months to December 2019).
So, Koninklijke BAM Groep has an ROCE of 2.3%. Ultimately, that's a low return and it under-performs the Construction industry average of 10%.
Above you can see how the current ROCE for Koninklijke BAM Groep compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Koninklijke BAM Groep.
What The Trend Of ROCE Can Tell Us
It's great to see that Koninklijke BAM Groep has started to generate some pre-tax earnings from prior investments. Historically the company was generating losses but as we can see from the latest figures referenced above, they're now earning 2.3% on their capital employed. In regards to capital employed, Koninklijke BAM Groep is using 22% less capital than it was five years ago, which on the surface, can indicate that the business has become more efficient at generating these returns. The reduction could indicate that the company is selling some assets, and considering returns are up, they appear to be selling the right ones.On a separate but related note, it's important to know that Koninklijke BAM Groep has a current liabilities to total assets ratio of 70%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.
In the end, Koninklijke BAM Groep has proven it's capital allocation skills are good with those higher returns from less amount of capital. Astute investors may have an opportunity here because the stock has declined 63% in the last five years. So researching this company further and determining whether or not these trends will continue seems justified.
On a final note, we've found 3 warning signs for Koninklijke BAM Groep that we think you should be aware of.
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. 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.
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