There Are Reasons To Feel Uneasy About MGE Energy's (NASDAQ:MGEE) Returns On Capital

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. However, after investigating MGE Energy (NASDAQ:MGEE), we don't think it's current trends fit the mold of a multi-bagger.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for MGE Energy:

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

0.052 = US$117m ÷ (US$2.4b - US$118m) (Based on the trailing twelve months to December 2021).

So, MGE Energy has an ROCE of 5.2%. On its own that's a low return on capital but it's in line with the industry's average returns of 4.5%.

View our latest analysis for MGE Energy

Above you can see how the current ROCE for MGE Energy 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 MGE Energy.

How Are Returns Trending?

On the surface, the trend of ROCE at MGE Energy doesn't inspire confidence. To be more specific, ROCE has fallen from 7.7% over the last five years. 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. If these investments prove successful, this can bode very well for long term stock performance.

The Bottom Line On MGE Energy's ROCE

While returns have fallen for MGE Energy in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. These trends are starting to be recognized by investors since the stock has delivered a 19% gain to shareholders who've held over the last five years. So this stock may still be an appealing investment opportunity, if other fundamentals prove to be sound.

On a separate note, we've found 1 warning sign for MGE Energy you'll probably want to know about.

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.

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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.