Investors Met With Slowing Returns on Capital At AES (NYSE:AES)
What are the early trends we should look for to identify a stock that could multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Although, when we looked at AES (NYSE:AES), it didn't seem to tick all of these boxes.
Understanding 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. To calculate this metric for AES, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.074 = US$2.3b ÷ (US$38b - US$6.5b) (Based on the trailing twelve months to December 2022).
Thus, AES has an ROCE of 7.4%. In absolute terms, that's a low return, but it's much better than the Renewable Energy industry average of 1.7%.
See our latest analysis for AES
In the above chart we have measured AES' 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 AES here for free.
The Trend Of ROCE
There hasn't been much to report for AES' returns and its level of capital employed because both metrics have been steady for the past five years. Businesses with these traits tend to be mature and steady operations because they're past the growth phase. With that in mind, unless investment picks up again in the future, we wouldn't expect AES to be a multi-bagger going forward. With fewer investment opportunities, it makes sense that AES has been paying out a decent 35% of its earnings to shareholders. Given the business isn't reinvesting in itself, it makes sense to distribute a portion of earnings among shareholders.
The Bottom Line On AES' ROCE
In a nutshell, AES has been trudging along with the same returns from the same amount of capital over the last five years. Yet to long term shareholders the stock has gifted them an incredible 146% return in the last five years, so the market appears to be rosy about its future. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.
Like most companies, AES does come with some risks, and we've found 2 warning signs that you should be aware of.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.
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.
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