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. Firstly, we’ll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it’s a business that is reinvesting profits at increasing rates of return. In light of that, when we looked at Super Micro Computer (NASDAQ:SMCI) 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. To calculate this metric for Super Micro Computer, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.092 = US$136m ÷ (US$2.7b – US$1.2b) (Based on the trailing twelve months to December 2021).
Therefore, Super Micro Computer has an ROCE of 9.2%. On its own, that’s a low figure but it’s around the 11% average generated by the Tech industry.
Above you can see how the current ROCE for Super Micro Computer compares to its prior returns on capital, but there’s only so much you can tell from the past. If you’d like to see what analysts are forecasting going forward, you should check out our free report for Super Micro Computer.
What The Trend Of ROCE Can Tell Us
In terms of Super Micro Computer’s historical ROCE trend, it doesn’t exactly demand attention. The company has employed 79% more capital in the last five years, and the returns on that capital have remained stable at 9.2%. 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.
On a separate but related note, it’s important to know that Super Micro Computer has a current liabilities to total assets ratio of 45%, which we’d consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it’s not necessarily a bad thing, it can be beneficial if this ratio is lower.
In summary, Super Micro Computer has simply been reinvesting capital and generating the same low rate of return as before. Since the stock has gained an impressive 45% over the last five years, investors must think there’s better things to come. Ultimately, if the underlying trends persist, we wouldn’t hold our breath on it being a multi-bagger going forward.
Super Micro Computer does have some risks, we noticed 2 warning signs (and 1 which makes us a bit uncomfortable) we think you should know about.
While Super Micro Computer may not currently earn the highest returns, we’ve compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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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.