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To find a multi-bagger stock, what are the underlying trends we should look for in a business? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Having said that, from a first glance at Turners Automotive Group (NZSE:TRA) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.
Understanding Return On Capital Employed (ROCE)
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for Turners Automotive Group, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.052 = NZ$37m ÷ (NZ$708m - NZ$2.8m) (Based on the trailing twelve months to March 2020).
So, Turners Automotive Group has an ROCE of 5.2%. Ultimately, that's a low return and it under-performs the Specialty Retail industry average of 15%.
In the above chart we have a measured Turners Automotive Group'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 Turners Automotive Group here for free.
What The Trend Of ROCE Can Tell Us
In terms of Turners Automotive Group's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 12%, but since then they've fallen to 5.2%. However it looks like Turners Automotive Group might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.
On a related note, Turners Automotive Group has decreased its current liabilities to 0.4% of total assets. That could partly explain why the ROCE has dropped. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.
Our Take On Turners Automotive Group's ROCE
Bringing it all together, while we're somewhat encouraged by Turners Automotive Group's reinvestment in its own business, we're aware that returns are shrinking. And with the stock having returned a mere 5.9% in the last five years to shareholders, you could argue that they're aware of these lackluster trends. As a result, if you're hunting for a multi-bagger, we think you'd have more luck elsewhere.
Turners Automotive Group does have some risks, we noticed 4 warning signs (and 2 which are a bit concerning) we think you should know about.
While Turners Automotive Group 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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