Paychex (NASDAQ:PAYX) Will Want To Turn Around Its Return Trends

If you're looking for a multi-bagger, there's a few things to keep an eye out for. 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Looking at Paychex (NASDAQ:PAYX), it does have a high ROCE right now, but lets see how returns are trending.

What Is Return On Capital Employed (ROCE)?

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 Paychex, this is the formula:

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

0.42 = US$2.0b ÷ (US$11b - US$6.0b) (Based on the trailing twelve months to February 2023).

Therefore, Paychex has an ROCE of 42%. That's a fantastic return and not only that, it outpaces the average of 12% earned by companies in a similar industry.

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'd like to see what analysts are forecasting going forward, you should check out our free report for Paychex.

What The Trend Of ROCE Can Tell Us

In terms of Paychex's historical ROCE movements, the trend isn't fantastic. To be more specific, while the ROCE is still high, it's fallen from 58% where it was five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.

On a related note, Paychex has decreased its current liabilities to 56% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

The Bottom Line

In summary, Paychex is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Although the market must be expecting these trends to improve because the stock has gained 89% over the last five years. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

If you're still interested in Paychex it's worth checking out our FREE intrinsic value approximation to see if it's trading at an attractive price in other respects.

High returns are a key ingredient to strong performance, so check out our free list ofstocks 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.