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SouthGobi Resources (TSE:SGQ) Might Have The Makings Of A Multi-Bagger

Simply Wall St
·3 min read

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. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Speaking of which, we noticed some great changes in SouthGobi Resources' (TSE:SGQ) returns on capital, so let's have a look.

Return On Capital Employed (ROCE): What is it?

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. Analysts use this formula to calculate it for SouthGobi Resources:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.14 = US$16m ÷ (US$210m - US$96m) (Based on the trailing twelve months to September 2021).

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Therefore, SouthGobi Resources has an ROCE of 14%. In absolute terms, that's a satisfactory return, but compared to the Oil and Gas industry average of 6.5% it's much better.

Check out our latest analysis for SouthGobi Resources

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Historical performance is a great place to start when researching a stock so above you can see the gauge for SouthGobi Resources' ROCE against it's prior returns. If you're interested in investigating SouthGobi Resources' past further, check out this free graph of past earnings, revenue and cash flow.

What Can We Tell From SouthGobi Resources' ROCE Trend?

It's great to see that SouthGobi Resources has started to generate some pre-tax earnings from prior investments. Historically the company was generating losses but as we can see from the latest figures referenced above, they're now earning 14% on their capital employed. In regards to capital employed, SouthGobi Resources is using 29% less capital than it was five years ago, which on the surface, can indicate that the business has become more efficient at generating these returns. SouthGobi Resources could be selling under-performing assets since the ROCE is improving.

Another thing to note, SouthGobi Resources has a high ratio of current liabilities to total assets of 46%. 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. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On SouthGobi Resources' ROCE

In the end, SouthGobi Resources has proven it's capital allocation skills are good with those higher returns from less amount of capital. Considering the stock has delivered 23% to its stockholders over the last five years, it may be fair to think that investors aren't fully aware of the promising trends yet. So with that in mind, we think the stock deserves further research.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for SouthGobi Resources (of which 1 is concerning!) that you should know about.

While SouthGobi 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.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.