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If you're looking for a multi-bagger, there's a few things to keep an eye out for. 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. In light of that, when we looked at Compumedics (ASX:CMP) and its ROCE trend, we weren't exactly thrilled.
What is Return On Capital Employed (ROCE)?
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Compumedics, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.041 = AU$940k ÷ (AU$36m - AU$13m) (Based on the trailing twelve months to December 2020).
So, Compumedics has an ROCE of 4.1%. Ultimately, that's a low return and it under-performs the Medical Equipment industry average of 8.8%.
Check out our latest analysis for Compumedics
Above you can see how the current ROCE for Compumedics 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 Compumedics here for free.
What Does the ROCE Trend For Compumedics Tell Us?
In terms of Compumedics' historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 23% over the last five years. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.
In Conclusion...
From the above analysis, we find it rather worrisome that returns on capital and sales for Compumedics have fallen, meanwhile the business is employing more capital than it was five years ago. Investors must expect better things on the horizon though because the stock has risen 12% in the last five years. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.
If you'd like to know about the risks facing Compumedics, we've discovered 1 warning sign that you should be aware of.
While Compumedics isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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