FONAR (NASDAQ:FONR) May Have Issues Allocating Its Capital

To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, from a first glance at FONAR (NASDAQ:FONR) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What is 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 FONAR:

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

0.074 = US$12m ÷ (US$182m - US$17m) (Based on the trailing twelve months to December 2020).

So, FONAR has an ROCE of 7.4%. In absolute terms, that's a low return but it's around the Medical Equipment industry average of 8.8%.

See our latest analysis for FONAR

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're interested in investigating FONAR's past further, check out this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at FONAR doesn't inspire confidence. To be more specific, ROCE has fallen from 22% over the last five years. 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's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a side note, FONAR has done well to pay down its current liabilities to 9.3% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line On FONAR's ROCE

To conclude, we've found that FONAR is reinvesting in the business, but returns have been falling. And with the stock having returned a mere 8.2% in the last five years to shareholders, you could argue that they're aware of these lackluster trends. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.

If you'd like to know more about FONAR, we've spotted 2 warning signs, and 1 of them is a bit concerning.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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