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. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Although, when we looked at Gap (NYSE:GPS), it didn't seem to tick all of these boxes.

Return On Capital Employed (ROCE): What Is It?

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. To calculate this metric for Gap, this is the formula:

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

0.099 = US$802m ÷ (US$11b - US$2.8b) (Based on the trailing twelve months to May 2024).

Thus, Gap has an ROCE of 9.9%. Ultimately, that's a low return and it under-performs the Specialty Retail industry average of 13%.

Above you can see how the current ROCE for Gap 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 analyst report for Gap .

What Can We Tell From Gap's ROCE Trend?

Over the past five years, Gap's ROCE has remained relatively flat while the business is using 25% less capital than before. To us that doesn't look like a multi-bagger because the company appears to be selling assets and it's returns aren't increasing. In addition to that, since the ROCE doesn't scream "quality" at 9.9%, it's hard to get excited about these developments.

Our Take On Gap's ROCE

It's a shame to see that Gap is effectively shrinking in terms of its capital base. Although the market must be expecting these trends to improve because the stock has gained 65% over the last five years. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

Like most companies, Gap does come with some risks, and we've found 2 warning signs that you should be aware of.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.

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