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If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. In light of that, when we looked at ESCO Technologies (NYSE:ESE) 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. Analysts use this formula to calculate it for ESCO Technologies:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.084 = US$93m ÷ (US$1.4b - US$247m) (Based on the trailing twelve months to March 2021).
Therefore, ESCO Technologies has an ROCE of 8.4%. On its own, that's a low figure but it's around the 10% average generated by the Machinery industry.
See our latest analysis for ESCO Technologies
In the above chart we have measured ESCO Technologies' prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
So How Is ESCO Technologies' ROCE Trending?
In terms of ESCO Technologies' historical ROCE trend, it doesn't exactly demand attention. The company has employed 41% more capital in the last five years, and the returns on that capital have remained stable at 8.4%. This poor ROCE doesn't inspire confidence right now, and with the increase in capital employed, it's evident that the business isn't deploying the funds into high return investments.
The Bottom Line
Long story short, while ESCO Technologies has been reinvesting its capital, the returns that it's generating haven't increased. Investors must think there's better things to come because the stock has knocked it out of the park, delivering a 117% gain to shareholders who have held over the last five years. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.
ESCO Technologies does have some risks though, and we've spotted 2 warning signs for ESCO Technologies that you might be interested in.
For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.
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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