Capital Allocation Trends At Middlesex Water (NASDAQ:MSEX) Aren't Ideal

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. Having said that, from a first glance at Middlesex Water (NASDAQ:MSEX) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. The formula for this calculation on Middlesex Water is:

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

0.04 = US$38m ÷ (US$1.0b - US$60m) (Based on the trailing twelve months to March 2022).

Therefore, Middlesex Water has an ROCE of 4.0%. On its own that's a low return on capital but it's in line with the industry's average returns of 4.3%.

See our latest analysis for Middlesex Water

Above you can see how the current ROCE for Middlesex Water 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 Middlesex Water.

So How Is Middlesex Water's ROCE Trending?

On the surface, the trend of ROCE at Middlesex Water doesn't inspire confidence. To be more specific, ROCE has fallen from 6.9% over the last five years. However it looks like Middlesex Water might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

Our Take On Middlesex Water's ROCE

Bringing it all together, while we're somewhat encouraged by Middlesex Water's reinvestment in its own business, we're aware that returns are shrinking. Yet to long term shareholders the stock has gifted them an incredible 153% return in the last five years, so the market appears to be rosy about its future. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

If you want to continue researching Middlesex Water, you might be interested to know about the 1 warning sign that our analysis has discovered.

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.