a2 Milk (NZSE:ATM) Could Become A Multi-Bagger

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. And in light of that, the trends we're seeing at a2 Milk's (NZSE:ATM) look very promising so lets take a look.

Return On Capital Employed (ROCE): What is it?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for a2 Milk:

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

0.38 = NZ$458m ÷ (NZ$1.4b - NZ$199m) (Based on the trailing twelve months to December 2020).

Therefore, a2 Milk has an ROCE of 38%. That's a fantastic return and not only that, it outpaces the average of 7.7% earned by companies in a similar industry.

Check out our latest analysis for a2 Milk

In the above chart we have measured a2 Milk'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 a2 Milk.

What Can We Tell From a2 Milk's ROCE Trend?

We like the trends that we're seeing from a2 Milk. Over the last five years, returns on capital employed have risen substantially to 38%. The amount of capital employed has increased too, by 987%. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.

In another part of our analysis, we noticed that the company's ratio of current liabilities to total assets decreased to 14%, which broadly means the business is relying less on its suppliers or short-term creditors to fund its operations. This tells us that a2 Milk has grown its returns without a reliance on increasing their current liabilities, which we're very happy with.

The Key Takeaway

To sum it up, a2 Milk has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. Since the stock has returned a staggering 325% to shareholders over the last five years, it looks like investors are recognizing these changes. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.

a2 Milk does have some risks though, and we've spotted 1 warning sign for a2 Milk that you might be interested in.

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. 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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