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To find a multi-bagger stock, what are the underlying trends we should look for in a business? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. So, when we ran our eye over Michael Hill International's (ASX:MHJ) trend of ROCE, we liked what we saw.
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. The formula for this calculation on Michael Hill International is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.17 = AU$60m ÷ (AU$508m - AU$152m) (Based on the trailing twelve months to June 2021).
Thus, Michael Hill International has an ROCE of 17%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Specialty Retail industry average of 19%.
In the above chart we have measured Michael Hill International's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
The Trend Of ROCE
While the returns on capital are good, they haven't moved much. Over the past five years, ROCE has remained relatively flat at around 17% and the business has deployed 26% more capital into its operations. Since 17% is a moderate ROCE though, it's good to see a business can continue to reinvest at these decent rates of return. Over long periods of time, returns like these might not be too exciting, but with consistency they can pay off in terms of share price returns.
What We Can Learn From Michael Hill International's ROCE
To sum it up, Michael Hill International has simply been reinvesting capital steadily, at those decent rates of return. Yet over the last five years the stock has declined 38%, so the decline might provide an opening. That's why we think it'd be worthwhile to look further into this stock given the fundamentals are appealing.
On a final note, we found 4 warning signs for Michael Hill International (1 is a bit unpleasant) 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.
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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