Returns On Capital Are Showing Encouraging Signs At Redcentric (LON:RCN)
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There are a few key trends to look for if we want to identify the next multi-bagger. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. So when we looked at Redcentric (LON:RCN) and its trend of ROCE, we really liked what we saw.
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 Redcentric is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.025 = UK£3.3m ÷ (UK£185m - UK£53m) (Based on the trailing twelve months to March 2024).
Thus, Redcentric has an ROCE of 2.5%. In absolute terms, that's a low return and it also under-performs the IT industry average of 16%.
View our latest analysis for Redcentric
In the above chart we have measured Redcentric'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 analyst report for Redcentric .
What Can We Tell From Redcentric's ROCE Trend?
Redcentric has recently broken into profitability so their prior investments seem to be paying off. Shareholders would no doubt be pleased with this because the business was loss-making five years ago but is is now generating 2.5% on its capital. Not only that, but the company is utilizing 34% more capital than before, but that's to be expected from a company trying to break into profitability. This can tell us that the company has plenty of reinvestment opportunities that are able to generate higher returns.
The Bottom Line
Overall, Redcentric gets a big tick from us thanks in most part to the fact that it is now profitable and is reinvesting in its business. Since the stock has returned a solid 54% to shareholders over the last five years, it's fair to say investors are beginning to recognize these changes. In light of that, we think it's worth looking further into this stock because if Redcentric can keep these trends up, it could have a bright future ahead.
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One more thing to note, we've identified 1 warning sign with Redcentric and understanding it should be part of your investment process.
While Redcentric 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.