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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. So when we looked at Stalprofil (WSE:STF) and its trend of ROCE, we really liked what we saw.
Understanding Return On Capital Employed (ROCE)
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Stalprofil:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.07 = zł33m ÷ (zł984m - zł518m) (Based on the trailing twelve months to September 2020).
Therefore, Stalprofil has an ROCE of 7.0%. Ultimately, that's a low return and it under-performs the Trade Distributors industry average of 9.9%.
Check out our latest analysis for Stalprofil
Historical performance is a great place to start when researching a stock so above you can see the gauge for Stalprofil's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Stalprofil, check out these free graphs here.
What Can We Tell From Stalprofil's ROCE Trend?
Shareholders will be relieved that Stalprofil has broken into profitability. The company was generating losses five years ago, but has managed to turn it around and as we saw earlier is now earning 7.0%, which is always encouraging. On top of that, what's interesting is that the amount of capital being employed has remained steady, so the business hasn't needed to put any additional money to work to generate these higher returns. So while we're happy that the business is more efficient, just keep in mind that could mean that going forward the business is lacking areas to invest internally for growth. After all, a company can only become a long term multi-bagger if it continually reinvests in itself at high rates of return.
For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. The current liabilities has increased to 53% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. Given it's pretty high ratio, we'd remind investors that having current liabilities at those levels can bring about some risks in certain businesses.
The Key Takeaway
To bring it all together, Stalprofil has done well to increase the returns it's generating from its capital employed. And given the stock has remained rather flat over the last five years, there might be an opportunity here if other metrics are strong. So researching this company further and determining whether or not these trends will continue seems justified.
One more thing to note, we've identified 2 warning signs with Stalprofil and understanding them should be part of your investment process.
While Stalprofil may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list 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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About WSE:STF
Excellent balance sheet with proven track record.
