If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. Although, when we looked at Public Service Enterprise Group (NYSE:PEG), it didn't seem to tick all of these boxes.
Understanding Return On Capital Employed (ROCE)
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Public Service Enterprise Group is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.056 = US$2.7b ÷ (US$54b - US$5.9b) (Based on the trailing twelve months to September 2024).
Therefore, Public Service Enterprise Group has an ROCE of 5.6%. In absolute terms, that's a low return but it's around the Integrated Utilities industry average of 5.1%.
In the above chart we have measured Public Service Enterprise Group's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Public Service Enterprise Group for free.
What Does the ROCE Trend For Public Service Enterprise Group Tell Us?
Things have been pretty stable at Public Service Enterprise Group, with its capital employed and returns on that capital staying somewhat the same for the last five years. It's not uncommon to see this when looking at a mature and stable business that isn't re-investing its earnings because it has likely passed that phase of the business cycle. So don't be surprised if Public Service Enterprise Group doesn't end up being a multi-bagger in a few years time. That being the case, it makes sense that Public Service Enterprise Group has been paying out 61% of its earnings to its shareholders. If the company is in fact lacking growth opportunities, that's one of the viable alternatives for the money.
The Bottom Line
In a nutshell, Public Service Enterprise Group has been trudging along with the same returns from the same amount of capital over the last five years. Although the market must be expecting these trends to improve because the stock has gained 76% 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.
Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for Public Service Enterprise Group (of which 1 is potentially serious!) that you should know about.
While Public Service Enterprise Group may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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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.
