There are a few key trends to look for if we want to identify the next multi-bagger. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. However, after investigating Forest Packaging GroupLtd (SHSE:605500), we don't think it's current trends fit the mold of a multi-bagger.
Return On Capital Employed (ROCE): What Is It?
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for Forest Packaging GroupLtd:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.044 = CN¥118m ÷ (CN¥3.0b - CN¥288m) (Based on the trailing twelve months to September 2023).
Thus, Forest Packaging GroupLtd has an ROCE of 4.4%. On its own that's a low return on capital but it's in line with the industry's average returns of 4.4%.
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'd like to look at how Forest Packaging GroupLtd has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
The Trend Of ROCE
When we looked at the ROCE trend at Forest Packaging GroupLtd, we didn't gain much confidence. To be more specific, ROCE has fallen from 38% over the last five years. Given the business is employing more capital while revenue has slipped, this is a bit concerning. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.
On a side note, Forest Packaging GroupLtd has done well to pay down its current liabilities to 9.7% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.
The Bottom Line On Forest Packaging GroupLtd's ROCE
We're a bit apprehensive about Forest Packaging GroupLtd because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Long term shareholders who've owned the stock over the last three years have experienced a 22% depreciation in their investment, so it appears the market might not like these trends either. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.
On a final note, we found 2 warning signs for Forest Packaging GroupLtd (1 makes us a bit uncomfortable) you should be aware of.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.
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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.