If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. In light of that, when we looked at Brinker International (NYSE:EAT) and its ROCE trend, we weren't exactly thrilled.
Understanding 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 Brinker International:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.071 = US$137m ÷ (US$2.5b - US$574m) (Based on the trailing twelve months to September 2022).
So, Brinker International has an ROCE of 7.1%. In absolute terms, that's a low return and it also under-performs the Hospitality industry average of 11%.
In the above chart we have measured Brinker International's 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 Brinker International here for free.
How Are Returns Trending?
When we looked at the ROCE trend at Brinker International, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 7.1% from 29% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.
What We Can Learn From Brinker International's ROCE
Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Brinker International. These trends are starting to be recognized by investors since the stock has delivered a 3.8% gain to shareholders who've held over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.
One more thing: We've identified 5 warning signs with Brinker International (at least 1 which makes us a bit uncomfortable) , and understanding them would certainly be useful.
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.
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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.
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