In This Article:
What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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. With that in mind, we've noticed some promising trends at Gear4music (Holdings) (LON:G4M) so let's look a bit deeper.
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. Analysts use this formula to calculate it for Gear4music (Holdings):
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.046 = UK£2.7m ÷ (UK£75m - UK£15m) (Based on the trailing twelve months to March 2024).
So, Gear4music (Holdings) has an ROCE of 4.6%. In absolute terms, that's a low return and it also under-performs the Specialty Retail industry average of 9.9%.
See our latest analysis for Gear4music (Holdings)
In the above chart we have measured Gear4music (Holdings)'s prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Gear4music (Holdings) for free.
What The Trend Of ROCE Can Tell Us
We're glad to see that ROCE is heading in the right direction, even if it is still low at the moment. The data shows that returns on capital have increased substantially over the last five years to 4.6%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 148%. So we're very much inspired by what we're seeing at Gear4music (Holdings) thanks to its ability to profitably reinvest capital.
One more thing to note, Gear4music (Holdings) has decreased current liabilities to 20% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. So this improvement in ROCE has come from the business' underlying economics, which is great to see.
In Conclusion...
All in all, it's terrific to see that Gear4music (Holdings) is reaping the rewards from prior investments and is growing its capital base. And since the stock has fallen 13% over the last five years, there might be an opportunity here. With that in mind, we believe the promising trends warrant this stock for further investigation.