Here's What Paychex's (NASDAQ:PAYX) Strong Returns On Capital Mean

There are a few key trends to look for if we want to identify the next multi-bagger. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount 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. Ergo, when we looked at the ROCE trends at Paychex (NASDAQ:PAYX), we 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 Paychex:

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

0.43 = US$2.2b ÷ (US$10b - US$5.3b) (Based on the trailing twelve months to May 2024).

Thus, Paychex has an ROCE of 43%. In absolute terms that's a great return and it's even better than the Professional Services industry average of 14%.

Check out our latest analysis for Paychex

In the above chart we have measured Paychex'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 analyst report for Paychex .

The Trend Of ROCE

It's hard not to be impressed by Paychex's returns on capital. The company has consistently earned 43% for the last five years, and the capital employed within the business has risen 32% in that time. With returns that high, it's great that the business can continually reinvest its money at such appealing rates of return. If Paychex can keep this up, we'd be very optimistic about its future.

On a separate but related note, it's important to know that Paychex has a current liabilities to total assets ratio of 51%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

In Conclusion...

In summary, we're delighted to see that Paychex has been compounding returns by reinvesting at consistently high rates of return, as these are common traits of a multi-bagger. Therefore it's no surprise that shareholders have earned a respectable 58% return if they held over the last five years. So even though the stock might be more "expensive" than it was before, we think the strong fundamentals warrant this stock for further research.

On a final note, we've found 1 warning sign for Paychex that we think you should be aware of.

Paychex is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.

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.

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