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If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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 while Gateley (Holdings) (LON:GTLY) has a high ROCE right now, lets see what we can decipher from how returns are changing.
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 Gateley (Holdings) is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.20 = UK£18m ÷ (UK£122m - UK£33m) (Based on the trailing twelve months to April 2021).
So, Gateley (Holdings) has an ROCE of 20%. That's a fantastic return and not only that, it outpaces the average of 12% earned by companies in a similar industry.
See our latest analysis for Gateley (Holdings)
In the above chart we have measured Gateley (Holdings)'s prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Gateley (Holdings).
What Can We Tell From Gateley (Holdings)'s ROCE Trend?
When we looked at the ROCE trend at Gateley (Holdings), we didn't gain much confidence. Historically returns on capital were even higher at 54%, but they have dropped over the last five years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.
On a related note, Gateley (Holdings) has decreased its current liabilities to 27% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.
Our Take On Gateley (Holdings)'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 Gateley (Holdings). And the stock has done incredibly well with a 109% return over the last five years, so long term investors are no doubt ecstatic with that result. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.