Investors Met With Slowing Returns on Capital At City Service (WSE:CTS)

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Although, when we looked at City Service (WSE:CTS), it didn't seem to tick all of these boxes.

Understanding Return On Capital Employed (ROCE)

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 City Service:

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

0.11 = €4.6m ÷ (€83m - €40m) (Based on the trailing twelve months to December 2022).

Therefore, City Service has an ROCE of 11%. In absolute terms, that's a pretty standard return but compared to the Commercial Services industry average it falls behind.

Check out our latest analysis for City Service

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how City Service has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For City Service Tell Us?

We've noticed that although returns on capital are flat over the last five years, the amount of capital employed in the business has fallen 45% in that same period. When a company effectively decreases its assets base, it's not usually a sign to be optimistic on that company. So if this trend continues, don't be surprised if the business is smaller in a few years time.

On another note, while the change in ROCE trend might not scream for attention, it's interesting that the current liabilities have actually gone up over the last five years. This is intriguing because if current liabilities hadn't increased to 48% of total assets, this reported ROCE would probably be less than11% because total capital employed would be higher.The 11% ROCE could be even lower if current liabilities weren't 48% of total assets, because the the formula would show a larger base of total capital employed. So with current liabilities at such high levels, this effectively means the likes of suppliers or short-term creditors are funding a meaningful part of the business, which in some instances can bring some risks.

The Bottom Line On City Service's ROCE

Overall, we're not ecstatic to see City Service reducing the amount of capital it employs in the business. And in the last five years, the stock has given away 39% so the market doesn't look too hopeful on these trends strengthening any time soon. On the whole, we aren't too inspired by the underlying trends and we think there may be better chances of finding a multi-bagger elsewhere.

If you want to know some of the risks facing City Service we've found 4 warning signs (2 are a bit concerning!) that you should be aware of before investing here.

While City Service isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.