Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Speaking of which, we noticed some great changes in SolarWinds' (NYSE:SWI) returns on capital, so let's have a look.
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 SolarWinds, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.075 = US$194m ÷ (US$3.1b - US$455m) (Based on the trailing twelve months to June 2024).
Therefore, SolarWinds has an ROCE of 7.5%. On its own, that's a low figure but it's around the 8.0% average generated by the Software industry.
Check out our latest analysis for SolarWinds
Above you can see how the current ROCE for SolarWinds compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for SolarWinds .
How Are Returns Trending?
You'd find it hard not to be impressed with the ROCE trend at SolarWinds. The figures show that over the last five years, returns on capital have grown by 163%. That's not bad because this tells for every dollar invested (capital employed), the company is increasing the amount earned from that dollar. Interestingly, the business may be becoming more efficient because it's applying 46% less capital than it was five years ago. A business that's shrinking its asset base like this isn't usually typical of a soon to be multi-bagger company.
The Bottom Line
In summary, it's great to see that SolarWinds has been able to turn things around and earn higher returns on lower amounts of capital. Given the stock has declined 21% in the last five years, this could be a good investment if the valuation and other metrics are also appealing. So researching this company further and determining whether or not these trends will continue seems justified.
One more thing: We've identified 3 warning signs with SolarWinds (at least 1 which makes us a bit uncomfortable) , and understanding these would certainly be useful.
While SolarWinds 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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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.
About NYSE:SWI
SolarWinds
Provides information technology (IT) management software products in the United States and internationally.
Moderate growth potential with acceptable track record.
