If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. 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. That's why when we briefly looked at Spark New Zealand's (NZSE:SPK) ROCE trend, we were pretty happy with what we saw.
Return On Capital Employed (ROCE): What is it?
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 Spark New Zealand, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.18 = NZ$636m ÷ (NZ$4.3b - NZ$781m) (Based on the trailing twelve months to June 2020).
So, Spark New Zealand has an ROCE of 18%. In absolute terms, that's a satisfactory return, but compared to the Telecom industry average of 9.8% it's much better.
In the above chart we have measured Spark New Zealand'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.
How Are Returns Trending?
While the current returns on capital are decent, they haven't changed much. The company has consistently earned 18% for the last five years, and the capital employed within the business has risen 43% in that time. 18% is a pretty standard return, and it provides some comfort knowing that Spark New Zealand has consistently earned this amount. Stable returns in this ballpark can be unexciting, but if they can be maintained over the long run, they often provide nice rewards to shareholders.
What We Can Learn From Spark New Zealand's ROCE
The main thing to remember is that Spark New Zealand has proven its ability to continually reinvest at respectable rates of return. And long term investors would be thrilled with the 113% return they've received over the last five years. So while the positive underlying trends may be accounted for by investors, we still think this stock is worth looking into further.
On a final note, we found 2 warning signs for Spark New Zealand (1 is concerning) 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. 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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