To find a multi-bagger stock, what are the underlying trends we should look for in a business? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. With that in mind, we've noticed some promising trends at Gudeng Precision Industrial (GTSM:3680) so let's look a bit deeper.
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. The formula for this calculation on Gudeng Precision Industrial is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.037 = NT$171m ÷ (NT$5.9b - NT$1.3b) (Based on the trailing twelve months to September 2020).
So, Gudeng Precision Industrial has an ROCE of 3.7%. Ultimately, that's a low return and it under-performs the Semiconductor industry average of 11%.
In the above chart we have measured Gudeng Precision Industrial's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Gudeng Precision Industrial here for free.
What Does the ROCE Trend For Gudeng Precision Industrial Tell Us?
We're delighted to see that Gudeng Precision Industrial is reaping rewards from its investments and is now generating some pre-tax profits. The company was generating losses five years ago, but now it's earning 3.7% which is a sight for sore eyes. In addition to that, Gudeng Precision Industrial is employing 139% more capital than previously which is expected of a company that's trying to break into profitability. We like this trend, because it tells us the company has profitable reinvestment opportunities available to it, and if it continues going forward that can lead to a multi-bagger performance.
On a related note, the company's ratio of current liabilities to total assets has decreased to 22%, which basically reduces it's funding from the likes of short-term creditors or suppliers. So shareholders would be pleased that the growth in returns has mostly come from underlying business performance.
The Bottom Line
To the delight of most shareholders, Gudeng Precision Industrial has now broken into profitability. Since the stock has returned a staggering 1,039% to shareholders over the last five years, it looks like investors are recognizing these changes. Therefore, we think it would be worth your time to check if these trends are going to continue.
If you'd like to know more about Gudeng Precision Industrial, we've spotted 4 warning signs, and 2 of them shouldn't be ignored.
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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