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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. So on that note, LS telcom (ETR:LSX) looks quite promising in regards to its trends of return on capital.
Return On Capital Employed (ROCE): What Is It?
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for LS telcom:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.063 = €1.7m ÷ (€42m - €15m) (Based on the trailing twelve months to September 2022).
So, LS telcom has an ROCE of 6.3%. Ultimately, that's a low return and it under-performs the Software industry average of 15%.
See our latest analysis for LS telcom
In the above chart we have measured LS telcom'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 LS telcom.
So How Is LS telcom's ROCE Trending?
We're delighted to see that LS telcom is reaping rewards from its investments and has now broken into profitability. While the business was unprofitable in the past, it's now turned things around and is earning 6.3% on its capital. On top of that, what's interesting is that the amount of capital being employed has remained steady, so the business hasn't needed to put any additional money to work to generate these higher returns. With no noticeable increase in capital employed, it's worth knowing what the company plans on doing going forward in regards to reinvesting and growing the business. Because in the end, a business can only get so efficient.
On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Essentially the business now has suppliers or short-term creditors funding about 36% of its operations, which isn't ideal. It's worth keeping an eye on this because as the percentage of current liabilities to total assets increases, some aspects of risk also increase.
What We Can Learn From LS telcom's ROCE
In summary, we're delighted to see that LS telcom has been able to increase efficiencies and earn higher rates of return on the same amount of capital. Since the total return from the stock has been almost flat over the last five years, there might be an opportunity here if the valuation looks good. So researching this company further and determining whether or not these trends will continue seems justified.