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. 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 investigating Global Water Resources (NASDAQ:GWRS), we don't think it's current trends fit the mold of a multi-bagger.
Return On Capital Employed (ROCE): What is it?
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 Global Water Resources, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.024 = US$6.6m ÷ (US$296m - US$16m) (Based on the trailing twelve months to September 2021).
Therefore, Global Water Resources has an ROCE of 2.4%. In absolute terms, that's a low return and it also under-performs the Water Utilities industry average of 4.5%.
Above you can see how the current ROCE for Global Water Resources compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Global Water Resources here for free.
What Does the ROCE Trend For Global Water Resources Tell Us?
The returns on capital haven't changed much for Global Water Resources in recent years. The company has consistently earned 2.4% for the last five years, and the capital employed within the business has risen 22% in that time. Given the company has increased the amount of capital employed, it appears the investments that have been made simply don't provide a high return on capital.
The Bottom Line On Global Water Resources' ROCE
In conclusion, Global Water Resources has been investing more capital into the business, but returns on that capital haven't increased. Yet to long term shareholders the stock has gifted them an incredible 105% return in the last five years, so the market appears to be rosy about its future. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.
One final note, you should learn about the 4 warning signs we've spotted with Global Water Resources (including 1 which can't be ignored) .
While Global Water Resources isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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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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