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If you're looking for a multi-bagger, there's a few things to keep an eye out for. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount 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. With that in mind, the ROCE of Gear4music (Holdings) (LON:G4M) looks decent, right now, so lets see what the trend of returns can tell us.
What is 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 Gear4music (Holdings), this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.18 = UK£11m ÷ (UK£81m - UK£17m) (Based on the trailing twelve months to September 2021).
Thus, Gear4music (Holdings) has an ROCE of 18%. On its own, that's a standard return, however it's much better than the 15% generated by the Specialty Retail industry.
See our latest analysis for Gear4music (Holdings)
Above you can see how the current ROCE for Gear4music (Holdings) compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
What The Trend Of ROCE Can Tell Us
While the current returns on capital are decent, they haven't changed much. Over the past five years, ROCE has remained relatively flat at around 18% and the business has deployed 464% more capital into its operations. 18% is a pretty standard return, and it provides some comfort knowing that Gear4music (Holdings) has consistently earned this amount. Stable returns in this ballpark can be unexciting, but if they can be maintained over the long run, they often provide nice rewards to shareholders.
One more thing to note, even though ROCE has remained relatively flat over the last five years, the reduction in current liabilities to 21% of total assets, is good to see from a business owner's perspective. Effectively suppliers now fund less of the business, which can lower some elements of risk.
The Bottom Line
In the end, Gear4music (Holdings) has proven its ability to adequately reinvest capital at good rates of return. However, over the last five years, the stock has only delivered a 27% return to shareholders who held over that period. That's why it could be worth your time looking into this stock further to discover if it has more traits of a multi-bagger.