If you're looking for a multi-bagger, there's a few things to keep an eye out for. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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 Harmonic (NASDAQ:HLIT) 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. The formula for this calculation on Harmonic is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.12 = US$54m ÷ (US$651m - US$186m) (Based on the trailing twelve months to July 2021).
Thus, Harmonic has an ROCE of 12%. In absolute terms, that's a satisfactory return, but compared to the Communications industry average of 6.8% it's much better.
Above you can see how the current ROCE for Harmonic 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.
So How Is Harmonic's ROCE Trending?
Harmonic has broken into the black (profitability) and we're sure it's a sight for sore eyes. The company now earns 12% on its capital, because five years ago it was incurring losses. On top of that, what's interesting is that the amount of capital being employed has remained steady, so the business hasn't needed to put any additional money to work to generate these higher returns. So while we're happy that the business is more efficient, just keep in mind that could mean that going forward the business is lacking areas to invest internally for growth. After all, a company can only become a long term multi-bagger if it continually reinvests in itself at high rates of return.
The Bottom Line
As discussed above, Harmonic appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. And with a respectable 71% awarded to those who held the stock over the last five years, you could argue that these developments are starting to get the attention they deserve. In light of that, we think it's worth looking further into this stock because if Harmonic can keep these trends up, it could have a bright future ahead.
One more thing, we've spotted 2 warning signs facing Harmonic that you might find interesting.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.
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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