To find a multi-bagger stock, what are the underlying trends we should look for in a business? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Speaking of which, we noticed some great changes in Tombador Iron's (ASX:TI1) returns on capital, so let's have a look.
Understanding 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 Tombador Iron is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.12 = AU$5.6m ÷ (AU$55m - AU$9.8m) (Based on the trailing twelve months to June 2022).
Therefore, Tombador Iron has an ROCE of 12%. In absolute terms, that's a satisfactory return, but compared to the Metals and Mining industry average of 10.0% it's much better.
While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Tombador Iron's past further, check out this free graph of past earnings, revenue and cash flow.
What The Trend Of ROCE Can Tell Us
The fact that Tombador Iron is now generating some pre-tax profits from its prior investments is very encouraging. Shareholders would no doubt be pleased with this because the business was loss-making two years ago but is is now generating 12% on its capital. Not only that, but the company is utilizing 2,728,349% more capital than before, but that's to be expected from a company trying to break into profitability. We like this trend, because it tells us the company has profitable reinvestment opportunities available to it, and if it continues going forward that can lead to a multi-bagger performance.
On a related note, the company's ratio of current liabilities to total assets has decreased to 18%, which basically reduces it's funding from the likes of short-term creditors or suppliers. This tells us that Tombador Iron has grown its returns without a reliance on increasing their current liabilities, which we're very happy with.
Overall, Tombador Iron gets a big tick from us thanks in most part to the fact that it is now profitable and is reinvesting in its business. Given the stock has declined 33% in the last year, this could be a good investment if the valuation and other metrics are also appealing. That being the case, research into the company's current valuation metrics and future prospects seems fitting.
Tombador Iron does have some risks, we noticed 3 warning signs (and 1 which can't be ignored) we think you should know about.
While Tombador Iron 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.
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