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What trends should we look for it we want to identify stocks that can multiply in value over the long term? 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. So when we looked at Cogstate (ASX:CGS) and its trend of ROCE, we really liked what we saw.
Return On Capital Employed (ROCE): What Is It?
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Cogstate:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.14 = US$6.2m ÷ (US$58m - US$13m) (Based on the trailing twelve months to June 2024).
Thus, Cogstate has an ROCE of 14%. In absolute terms, that's a satisfactory return, but compared to the Healthcare Services industry average of 8.7% it's much better.
Check out our latest analysis for Cogstate
In the above chart we have measured Cogstate'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 analyst report for Cogstate .
How Are Returns Trending?
Cogstate has recently broken into profitability so their prior investments seem to be paying off. Shareholders would no doubt be pleased with this because the business was loss-making five years ago but is is now generating 14% on its capital. And unsurprisingly, like most companies trying to break into the black, Cogstate is utilizing 333% more capital than it was five years ago. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.
One more thing to note, Cogstate has decreased current liabilities to 22% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. Therefore we can rest assured that the growth in ROCE is a result of the business' fundamental improvements, rather than a cooking class featuring this company's books.
Our Take On Cogstate's ROCE
In summary, it's great to see that Cogstate has managed to break into profitability and is continuing to reinvest in its business. Since the stock has returned a staggering 169% to shareholders over the last five years, it looks like investors are recognizing these changes. Therefore, we think it would be worth your time to check if these trends are going to continue.