Be Wary Of Telkom SA SOC (JSE:TKG) And Its Returns On Capital

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after briefly looking over the numbers, we don't think Telkom SA SOC (JSE:TKG) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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. To calculate this metric for Telkom SA SOC, this is the formula:

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

0.096 = R4.6b ÷ (R66b - R19b) (Based on the trailing twelve months to March 2022).

Thus, Telkom SA SOC has an ROCE of 9.6%. In absolute terms, that's a low return but it's around the Telecom industry average of 12%.

Check out the opportunities and risks within the ZA Telecom industry.

In the above chart we have measured Telkom SA SOC's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Telkom SA SOC here for free.

What The Trend Of ROCE Can Tell Us

On the surface, the trend of ROCE at Telkom SA SOC doesn't inspire confidence. Over the last five years, returns on capital have decreased to 9.6% from 14% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. 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.

In Conclusion...

In summary, Telkom SA SOC is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. And investors appear hesitant that the trends will pick up because the stock has fallen 21% in the last five years. Therefore based on the analysis done in this article, we don't think Telkom SA SOC has the makings of a multi-bagger.

On a final note, we found 2 warning signs for Telkom SA SOC (1 is significant) you should be aware of.

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.