Meridian Energy (NZSE:MEL) Has Some Way To Go To Become A Multi-Bagger

There are a few key trends to look for if we want to identify the next multi-bagger. 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. However, after investigating Meridian Energy (NZSE:MEL), we don't think it's current trends fit the mold of a multi-bagger.

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. To calculate this metric for Meridian Energy, this is the formula:

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

0.051 = NZ$446m ÷ (NZ$9.6b - NZ$901m) (Based on the trailing twelve months to December 2021).

Thus, Meridian Energy has an ROCE of 5.1%. In absolute terms, that's a low return but it's around the Renewable Energy industry average of 6.4%.

See our latest analysis for Meridian Energy

Above you can see how the current ROCE for Meridian Energy 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 Meridian Energy here for free.

So How Is Meridian Energy's ROCE Trending?

Over the past five years, Meridian Energy's ROCE and capital employed have both remained mostly flat. This tells us the company isn't reinvesting in itself, so it's plausible that it's past the growth phase. So don't be surprised if Meridian Energy doesn't end up being a multi-bagger in a few years time. That being the case, it makes sense that Meridian Energy has been paying out 172% of its earnings to its shareholders. Most shareholders probably know this and own the stock for its dividend.

The Key Takeaway

In summary, Meridian Energy isn't compounding its earnings but is generating stable returns on the same amount of capital employed. Yet to long term shareholders the stock has gifted them an incredible 148% return in the last five years, so the market appears to be rosy about its future. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

If you'd like to know about the risks facing Meridian Energy, we've discovered 2 warning signs that 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. 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.