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If you're looking for a multi-bagger, there's a few things to 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 when we looked at Telephone and Data Systems (NYSE:TDS) and its trend of ROCE, we really liked what we saw.
What is Return On Capital Employed (ROCE)?
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Telephone and Data Systems:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.021 = US$211m ÷ (US$11b - US$882m) (Based on the trailing twelve months to June 2020).
So, Telephone and Data Systems has an ROCE of 2.1%. In absolute terms, that's a low return and it also under-performs the Wireless Telecom industry average of 3.7%.
In the above chart we have measured Telephone and Data Systems' 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 report for Telephone and Data Systems.
How Are Returns Trending?
Telephone and Data Systems 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 2.1% on its capital. And unsurprisingly, like most companies trying to break into the black, Telephone and Data Systems is utilizing 29% 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.
The Bottom Line
Long story short, we're delighted to see that Telephone and Data Systems' reinvestment activities have paid off and the company is now profitable. And since the stock has fallen 32% 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.
If you'd like to know more about Telephone and Data Systems, we've spotted 4 warning signs, and 2 of them are concerning.
While Telephone and Data Systems may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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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