If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So, when we ran our eye over PepsiCo's (NASDAQ:PEP) trend of ROCE, we liked what we saw.
Understanding Return On Capital Employed (ROCE)
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on PepsiCo is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.18 = US$12b ÷ (US$93b - US$26b) (Based on the trailing twelve months to March 2022).
Thus, PepsiCo has an ROCE of 18%. On its own, that's a standard return, however it's much better than the 13% generated by the Beverage industry.
In the above chart we have measured PepsiCo'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 PepsiCo here for free.
What Can We Tell From PepsiCo's ROCE Trend?
While the returns on capital are good, they haven't moved much. Over the past five years, ROCE has remained relatively flat at around 18% and the business has deployed 27% more capital into its operations. Since 18% is a moderate ROCE though, it's good to see a business can continue to reinvest at these decent rates of return. Stable returns in this ballpark can be unexciting, but if they can be maintained over the long run, they often provide nice rewards to shareholders.
What We Can Learn From PepsiCo's ROCE
To sum it up, PepsiCo has simply been reinvesting capital steadily, at those decent rates of return. And since the stock has risen strongly over the last five years, it appears the market might expect this trend to continue. So even though the stock might be more "expensive" than it was before, we think the strong fundamentals warrant this stock for further research.
One more thing, we've spotted 3 warning signs facing PepsiCo that you might find interesting.
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. 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.