There are a few key trends to look for if we want to identify the next multi-bagger. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. So, when we ran our eye over Arista Networks' (NYSE:ANET) trend of ROCE, we really liked what we saw.
Understanding 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 Arista Networks is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.29 = US$1.9b ÷ (US$8.2b - US$1.7b) (Based on the trailing twelve months to June 2023).
So, Arista Networks has an ROCE of 29%. That's a fantastic return and not only that, it outpaces the average of 8.9% earned by companies in a similar industry.
Above you can see how the current ROCE for Arista Networks compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Arista Networks here for free.
What Can We Tell From Arista Networks' ROCE Trend?
In terms of Arista Networks' history of ROCE, it's quite impressive. Over the past five years, ROCE has remained relatively flat at around 29% and the business has deployed 226% more capital into its operations. With returns that high, it's great that the business can continually reinvest its money at such appealing rates of return. You'll see this when looking at well operated businesses or favorable business models.
In the end, the company has proven it can reinvest it's capital at high rates of returns, which you'll remember is a trait of a multi-bagger. On top of that, the stock has rewarded shareholders with a remarkable 171% return to those who've held over the last five years. So while the positive underlying trends may be accounted for by investors, we still think this stock is worth looking into further.
On a final note, we've found 1 warning sign for Arista Networks that we think you should be aware of.
Arista Networks is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.