There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. However, after investigating Priority Technology Holdings (NASDAQ:PRTH), we don't think it's current trends fit the mold of a multi-bagger.
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. To calculate this metric for Priority Technology Holdings, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.053 = US$15m ÷ (US$380m - US$101m) (Based on the trailing twelve months to September 2020).
Therefore, Priority Technology Holdings has an ROCE of 5.3%. In absolute terms, that's a low return and it also under-performs the IT industry average of 10%.
In the above chart we have measured Priority Technology Holdings' 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 Priority Technology Holdings.
What The Trend Of ROCE Can Tell Us
When we looked at the ROCE trend at Priority Technology Holdings, we didn't gain much confidence. Over the last three years, returns on capital have decreased to 5.3% from 16% three years ago. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.
The Bottom Line
Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Priority Technology Holdings. And the stock has done incredibly well with a 215% return over the last year, so long term investors are no doubt ecstatic with that result. So should these growth trends continue, we'd be optimistic on the stock going forward.
On a final note, we found 5 warning signs for Priority Technology Holdings (3 can't be ignored) you should be aware of.
While Priority Technology Holdings isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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What are the risks and opportunities for Priority Technology Holdings?
Revenue is forecast to grow 11.03% per year
Earnings have declined by 4.5% per year over past 5 years
Significant insider selling over the past 3 months
Volatile share price over the past 3 months
This article by Simply Wall St is general in nature. 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.
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