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There are a few key trends to look for if we want to identify the next multi-bagger. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's 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. However, after investigating Allied Farmers (NZSE:ALF), we don't think it's current trends fit the mold of a multi-bagger.
What Is Return On Capital Employed (ROCE)?
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. The formula for this calculation on Allied Farmers is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.13 = NZ$3.7m ÷ (NZ$39m - NZ$11m) (Based on the trailing twelve months to June 2024).
Therefore, Allied Farmers has an ROCE of 13%. That's a relatively normal return on capital, and it's around the 11% generated by the Food industry.
View our latest analysis for Allied Farmers
While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how Allied Farmers has performed in the past in other metrics, you can view this free graph of Allied Farmers' past earnings, revenue and cash flow.
What Can We Tell From Allied Farmers' ROCE Trend?
On the surface, the trend of ROCE at Allied Farmers doesn't inspire confidence. Over the last five years, returns on capital have decreased to 13% from 23% five years ago. However it looks like Allied Farmers might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.
On a related note, Allied Farmers has decreased its current liabilities to 29% 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. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.
In Conclusion...
To conclude, we've found that Allied Farmers is reinvesting in the business, but returns have been falling. And investors may be recognizing these trends since the stock has only returned a total of 34% to shareholders over the last five years. As a result, if you're hunting for a multi-bagger, we think you'd have more luck elsewhere.