If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, 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. However, after investigating Vatti (SZSE:002035), we don't think it's current trends fit the mold of a multi-bagger.
What Is Return On Capital Employed (ROCE)?
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on Vatti is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.049 = CN¥180m ÷ (CN¥6.9b - CN¥3.2b) (Based on the trailing twelve months to September 2023).
Thus, Vatti has an ROCE of 4.9%. Ultimately, that's a low return and it under-performs the Consumer Durables industry average of 7.8%.
Check out our latest analysis for Vatti
Above you can see how the current ROCE for Vatti 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 Vatti here for free.
So How Is Vatti's ROCE Trending?
On the surface, the trend of ROCE at Vatti doesn't inspire confidence. To be more specific, ROCE has fallen from 29% over the last five years. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. 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.
Another thing to note, Vatti has a high ratio of current liabilities to total assets of 47%. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
What We Can Learn From Vatti's ROCE
Bringing it all together, while we're somewhat encouraged by Vatti's reinvestment in its own business, we're aware that returns are shrinking. And investors appear hesitant that the trends will pick up because the stock has fallen 38% in the last five years. On the whole, we aren't too inspired by the underlying trends and we think there may be better chances of finding a multi-bagger elsewhere.
If you'd like to know about the risks facing Vatti, we've discovered 1 warning sign that 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.
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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.
