Returns On Capital At Twin Disc (NASDAQ:TWIN) Have Hit The Brakes
If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. However, after briefly looking over the numbers, we don't think Twin Disc (NASDAQ:TWIN) has the makings of a multi-bagger going forward, but let's have a look at why that may be.
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 Twin Disc is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.094 = US$18m ÷ (US$278m - US$92m) (Based on the trailing twelve months to September 2023).
So, Twin Disc has an ROCE of 9.4%. Ultimately, that's a low return and it under-performs the Machinery industry average of 12%.
View our latest analysis for Twin Disc
Historical performance is a great place to start when researching a stock so above you can see the gauge for Twin Disc's ROCE against it's prior returns. If you'd like to look at how Twin Disc has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
What Can We Tell From Twin Disc's ROCE Trend?
Over the past five years, Twin Disc's ROCE has remained relatively flat while the business is using 29% less capital than before. This indicates to us that assets are being sold and thus the business is likely shrinking, which you'll remember isn't the typical ingredients for an up-and-coming multi-bagger. Not only that, but the low returns on this capital mentioned earlier would leave most investors unimpressed.
On another note, while the change in ROCE trend might not scream for attention, it's interesting that the current liabilities have actually gone up over the last five years. This is intriguing because if current liabilities hadn't increased to 33% of total assets, this reported ROCE would probably be less than9.4% because total capital employed would be higher.The 9.4% ROCE could be even lower if current liabilities weren't 33% of total assets, because the the formula would show a larger base of total capital employed. With that in mind, just be wary if this ratio increases in the future, because if it gets particularly high, this brings with it some new elements of risk.
In Conclusion...
In summary, Twin Disc isn't reinvesting funds back into the business and returns aren't growing. And with the stock having returned a mere 7.1% in the last five years to shareholders, you could argue that they're aware of these lackluster trends. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.
Twin Disc could be trading at an attractive price in other respects, so you might find our free intrinsic value estimation on our platform quite valuable.
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.
