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If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount 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. So on that note, Severfield (LON:SFR) looks quite promising in regards to its trends of return on capital.
Return On Capital Employed (ROCE): What Is It?
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 Severfield:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.12 = UK£32m ÷ (UK£388m - UK£133m) (Based on the trailing twelve months to September 2024).
Thus, Severfield has an ROCE of 12%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Construction industry average of 15%.
Check out our latest analysis for Severfield
In the above chart we have measured Severfield'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 Severfield for free.
So How Is Severfield's ROCE Trending?
The trends we've noticed at Severfield are quite reassuring. The data shows that returns on capital have increased substantially over the last five years to 12%. The amount of capital employed has increased too, by 25%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.
For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. Effectively this means that suppliers or short-term creditors are now funding 34% of the business, which is more than it was five years ago. Keep an eye out for future increases because when the ratio of current liabilities to total assets gets particularly high, this can introduce some new risks for the business.
The Bottom Line
A company that is growing its returns on capital and can consistently reinvest in itself is a highly sought after trait, and that's what Severfield has. Astute investors may have an opportunity here because the stock has declined 21% in the last five years. That being the case, research into the company's current valuation metrics and future prospects seems fitting.