If you're looking for a multi-bagger, there's a few things to 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. With that in mind, we've noticed some promising trends at CPS Technologies (NASDAQ:CPSH) so let's look a bit deeper.
What is Return On Capital Employed (ROCE)?
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for CPS Technologies, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.092 = US$1.3m ÷ (US$19m - US$4.9m) (Based on the trailing twelve months to April 2022).
So, CPS Technologies has an ROCE of 9.2%. On its own, that's a low figure but it's around the 11% average generated by the Electronic industry.
Historical performance is a great place to start when researching a stock so above you can see the gauge for CPS Technologies' ROCE against it's prior returns. If you'd like to look at how CPS Technologies has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
How Are Returns Trending?
CPS Technologies has recently broken into profitability so their prior investments seem to be paying off. The company was generating losses five years ago, but now it's earning 9.2% which is a sight for sore eyes. In addition to that, CPS Technologies is employing 40% more capital than previously which is expected of a company that's trying to break into profitability. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.
On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. The current liabilities has increased to 25% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. Keep an eye out for future increases because when the ratio of current liabilities to total assets gets particularly high, this can introduce some new risks for the business.
The Key Takeaway
Long story short, we're delighted to see that CPS Technologies' reinvestment activities have paid off and the company is now profitable. Since the stock has returned a staggering 161% to shareholders over the last five years, it looks like investors are recognizing these changes. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.
One final note, you should learn about the 4 warning signs we've spotted with CPS Technologies (including 1 which is a bit unpleasant) .
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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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.
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