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If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after briefly looking over the numbers, we don't think Arcontech Group (LON:ARC) has the makings of a multi-bagger going forward, but let's have a look at why that may be.
What Is Return On Capital Employed (ROCE)?
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. Analysts use this formula to calculate it for Arcontech Group:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.099 = UK£870k ÷ (UK£11m - UK£1.8m) (Based on the trailing twelve months to June 2024).
Thus, Arcontech Group has an ROCE of 9.9%. On its own that's a low return on capital but it's in line with the industry's average returns of 10%.
Check out our latest analysis for Arcontech Group
Above you can see how the current ROCE for Arcontech Group compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Arcontech Group for free.
How Are Returns Trending?
On the surface, the trend of ROCE at Arcontech Group doesn't inspire confidence. Around five years ago the returns on capital were 19%, but since then they've fallen to 9.9%. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. 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.
On a related note, Arcontech Group has decreased its current liabilities to 17% of total assets. That could partly explain why the ROCE has dropped. 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.
The Key Takeaway
In summary, Arcontech Group 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 46% in the last five years. Therefore based on the analysis done in this article, we don't think Arcontech Group has the makings of a multi-bagger.