Be Wary Of Bandwidth (NASDAQ:BAND) And Its Returns On Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. Although, when we looked at Bandwidth (NASDAQ:BAND), it didn't seem to tick all of these boxes.

Understanding 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. To calculate this metric for Bandwidth, this is the formula:

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

0.0034 = US$3.4m ÷ (US$1.1b - US$92m) (Based on the trailing twelve months to June 2021).

So, Bandwidth has an ROCE of 0.3%. Ultimately, that's a low return and it under-performs the Telecom industry average of 11%.

See our latest analysis for Bandwidth

Above you can see how the current ROCE for Bandwidth 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 report for Bandwidth.

What Does the ROCE Trend For Bandwidth Tell Us?

When we looked at the ROCE trend at Bandwidth, we didn't gain much confidence. Around five years ago the returns on capital were 55%, but since then they've fallen to 0.3%. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, Bandwidth has done well to pay down its current liabilities to 8.4% of total assets. Considering it used to be 67%, that's a huge drop in that ratio and it would explain the decline in ROCE. 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 Bandwidth's ROCE

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Bandwidth. And long term investors must be optimistic going forward because the stock has returned a huge 101% to shareholders in the last three years. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

On a final note, we found 3 warning signs for Bandwidth (1 shouldn't be ignored) you should be aware of.

While Bandwidth isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

If you’re looking to trade Bandwidth, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.