Arjo (STO:ARJO B) Has Some Way To Go To Become A Multi-Bagger

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Although, when we looked at Arjo (STO:ARJO B), it didn't seem to tick all of these boxes.

What is 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. The formula for this calculation on Arjo is:

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

0.10 = kr1.1b ÷ (kr15b - kr4.6b) (Based on the trailing twelve months to March 2022).

Therefore, Arjo has an ROCE of 10%. In absolute terms, that's a satisfactory return, but compared to the Medical Equipment industry average of 7.2% it's much better.

Check out our latest analysis for Arjo

In the above chart we have measured Arjo's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What The Trend Of ROCE Can Tell Us

Over the past five years, Arjo'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. With that in mind, unless investment picks up again in the future, we wouldn't expect Arjo to be a multi-bagger going forward. This probably explains why Arjo is paying out 39% of its income to shareholders in the form of dividends. Unless businesses have highly compelling growth opportunities, they'll typically return some money to shareholders.

The Bottom Line On Arjo's ROCE

In summary, Arjo isn't compounding its earnings but is generating stable returns on the same amount of capital employed. Since the stock has gained an impressive 86% over the last three years, investors must think there's better things to come. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

On a final note, we've found 3 warning signs for Arjo that we think you should be aware of.

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

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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.