In This Article:
There are a few key trends to look for if we want to identify the next multi-bagger. 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. So when we looked at Balfour Beatty (LON:BBY) and its trend of ROCE, we really liked what we saw.
Return On Capital Employed (ROCE): What is it?
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 Balfour Beatty, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.015 = UK£43m ÷ (UK£5.2b - UK£2.4b) (Based on the trailing twelve months to June 2020).
Thus, Balfour Beatty has an ROCE of 1.5%. In absolute terms, that's a low return and it also under-performs the Construction industry average of 12%.
View our latest analysis for Balfour Beatty
In the above chart we have measured Balfour Beatty's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
What Does the ROCE Trend For Balfour Beatty Tell Us?
The fact that Balfour Beatty is now generating some pre-tax profits from its prior investments is very encouraging. About five years ago the company was generating losses but things have turned around because it's now earning 1.5% on its capital. In addition to that, Balfour Beatty is employing 23% more capital than previously which is expected of a company that's trying to break into profitability. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.
On a separate but related note, it's important to know that Balfour Beatty has a current liabilities to total assets ratio of 46%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
What We Can Learn From Balfour Beatty's ROCE
Long story short, we're delighted to see that Balfour Beatty's reinvestment activities have paid off and the company is now profitable. Considering the stock has delivered 9.9% to its stockholders over the last five years, it may be fair to think that investors aren't fully aware of the promising trends yet. So with that in mind, we think the stock deserves further research.