To find a multi-bagger stock, what are the underlying trends we should look for in a business? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. And in light of that, the trends we're seeing at SKY Network Television's (NZSE:SKT) look very promising so lets take a look.
What is 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. The formula for this calculation on SKY Network Television is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.22 = NZ$104m ÷ (NZ$794m - NZ$325m) (Based on the trailing twelve months to December 2020).
Thus, SKY Network Television has an ROCE of 22%. That's a fantastic return and not only that, it outpaces the average of 5.8% earned by companies in a similar industry.
In the above chart we have measured SKY Network Television's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for SKY Network Television.
So How Is SKY Network Television's ROCE Trending?
We're pretty happy with how the ROCE has been trending at SKY Network Television. The data shows that returns on capital have increased by 29% over the trailing five years. The company is now earning NZ$0.2 per dollar of capital employed. In regards to capital employed, SKY Network Television appears to been achieving more with less, since the business is using 69% less capital to run its operation. If this trend continues, the business might be getting more efficient but it's shrinking in terms of total assets.
For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. Effectively this means that suppliers or short-term creditors are now funding 41% of the business, which is more than it was five years ago. Given it's pretty high ratio, we'd remind investors that having current liabilities at those levels can bring about some risks in certain businesses.
What We Can Learn From SKY Network Television's ROCE
In a nutshell, we're pleased to see that SKY Network Television has been able to generate higher returns from less capital. Although the company may be facing some issues elsewhere since the stock has plunged 84% in the last five years. Still, it's worth doing some further research to see if the trends will continue into the future.
Before jumping to any conclusions though, we need to know what value we're getting for the current share price. That's where you can check out our FREE intrinsic value estimation that compares the share price and estimated value.
SKY Network Television is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.