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. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. With that in mind, we've noticed some promising trends at Servotronics (NYSEMKT:SVT) so let's look a bit deeper.
Return On Capital Employed (ROCE): What is it?
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Servotronics, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.12 = US$5.7m ÷ (US$56m - US$7.9m) (Based on the trailing twelve months to June 2020).
So, Servotronics has an ROCE of 12%. In absolute terms, that's a satisfactory return, but compared to the Electrical industry average of 9.4% it's much better.
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 Servotronics has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
What Can We Tell From Servotronics' ROCE Trend?
Investors would be pleased with what's happening at Servotronics. Over the last five years, returns on capital employed have risen substantially to 12%. Basically the business is earning more per dollar of capital invested and in addition to that, 68% more capital is being employed now too. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.
What We Can Learn From Servotronics' ROCE
A company that is growing its returns on capital and can consistently reinvest in itself is a highly sought after trait, and that's what Servotronics has. Since the stock has only returned 11% to shareholders over the last five years, the promising fundamentals may not be recognized yet by investors. So with that in mind, we think the stock deserves further research.
If you want to continue researching Servotronics, you might be interested to know about the 2 warning signs that our analysis has discovered.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.
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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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