To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Shine Justice (ASX:SHJ) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.
Return On Capital Employed (ROCE): What Is It?
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Shine Justice:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.031 = AU$13m ÷ (AU$621m - AU$200m) (Based on the trailing twelve months to June 2023).
So, Shine Justice has an ROCE of 3.1%. Ultimately, that's a low return and it under-performs the Consumer Services industry average of 7.2%.
In the above chart we have measured Shine Justice'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 Shine Justice here for free.
What Does the ROCE Trend For Shine Justice Tell Us?
When we looked at the ROCE trend at Shine Justice, we didn't gain much confidence. To be more specific, ROCE has fallen from 9.2% over the last five years. However it looks like Shine Justice might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.
While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 32%, which has impacted the ROCE. Without this increase, it's likely that ROCE would be even lower than 3.1%. Keep an eye on this ratio, because the business could encounter some new risks if this metric gets too high.
The Bottom Line
In summary, Shine Justice is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. And investors may be recognizing these trends since the stock has only returned a total of 24% to shareholders over the last five years. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.
If you'd like to know about the risks facing Shine Justice, we've discovered 2 warning signs that you should be aware of.
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.
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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.