Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after briefly looking over the numbers, we don’t think Eaton (NYSE:ETN) has the makings of a multi-bagger going forward, but let’s have a look at why that may be.
What Is Return On Capital Employed (ROCE)?
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. The formula for this calculation on Eaton is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.10 = US$2.8b ÷ (US$34b – US$6.7b) (Based on the trailing twelve months to September 2022).
Thus, Eaton has an ROCE of 10%. That’s a pretty standard return and it’s in line with the industry average of 10%.
Check out our latest analysis for Eaton
Above you can see how the current ROCE for Eaton compares to its prior returns on capital, but there’s only so much you can tell from the past. If you’d like, you can check out the forecasts from the analysts covering Eaton here for free.
What Does the ROCE Trend For Eaton Tell Us?
Over the past five years, Eaton’s ROCE and capital employed have both remained mostly flat. Businesses with these traits tend to be mature and steady operations because they’re past the growth phase. So don’t be surprised if Eaton doesn’t end up being a multi-bagger in a few years time. With fewer investment opportunities, it makes sense that Eaton has been paying out a decent 43% of its earnings to shareholders. Unless businesses have highly compelling growth opportunities, they’ll typically return some money to shareholders.
The Bottom Line
In a nutshell, Eaton has been trudging along with the same returns from the same amount of capital over the last five years. Investors must think there’s better things to come because the stock has knocked it out of the park, delivering a 131% gain to shareholders who have held over the last five years. Ultimately, if the underlying trends persist, we wouldn’t hold our breath on it being a multi-bagger going forward.
On a final note, we’ve found 2 warning signs for Eaton that we think you should be aware of.
While Eaton 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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