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There are a few key trends to look for if we want to identify the next multi-bagger. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. In light of that, when we looked at Park-Ohio Holdings (NASDAQ:PKOH) and its ROCE trend, we weren't exactly thrilled.
What is Return On Capital Employed (ROCE)?
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 Park-Ohio Holdings:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.028 = US$28m ÷ (US$1.3b - US$307m) (Based on the trailing twelve months to December 2020).
Thus, Park-Ohio Holdings has an ROCE of 2.8%. In absolute terms, that's a low return and it also under-performs the Machinery industry average of 9.4%.
Above you can see how the current ROCE for Park-Ohio Holdings 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 Park-Ohio Holdings here for free.
What Does the ROCE Trend For Park-Ohio Holdings Tell Us?
When we looked at the ROCE trend at Park-Ohio Holdings, we didn't gain much confidence. Around five years ago the returns on capital were 14%, but since then they've fallen to 2.8%. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.
In summary, we're somewhat concerned by Park-Ohio Holdings' diminishing returns on increasing amounts of capital. And long term shareholders have watched their investments stay flat over the last five years. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.
One final note, you should learn about the 3 warning signs we've spotted with Park-Ohio Holdings (including 1 which shouldn't be ignored) .
While Park-Ohio Holdings isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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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