If you're looking for a multi-bagger, there's a few things to keep an eye out for. 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. Having said that, from a first glance at Hostess Brands (NASDAQ:TWNK) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.
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. To calculate this metric for Hostess Brands, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.049 = US$156m ÷ (US$3.4b - US$190m) (Based on the trailing twelve months to December 2020).
Therefore, Hostess Brands has an ROCE of 4.9%. In absolute terms, that's a low return and it also under-performs the Food industry average of 9.0%.
Above you can see how the current ROCE for Hostess Brands compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
How Are Returns Trending?
Unfortunately, the trend isn't great with ROCE falling from 30% five years ago, while capital employed has grown 478%. That being said, Hostess Brands raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. The funds raised likely haven't been put to work yet so it's worth watching what happens in the future with Hostess Brands' earnings and if they change as a result from the capital raise. It's also worth noting the company's latest EBIT figure is within 10% of the previous year, so it's fair to assign the ROCE drop largely to the capital raise.
The Bottom Line On Hostess Brands' ROCE
While returns have fallen for Hostess Brands in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And the stock has followed suit returning a meaningful 50% to shareholders over the last five years. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.
Hostess Brands does have some risks though, and we've spotted 1 warning sign for Hostess Brands that you might be interested in.
While Hostess Brands may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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