There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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. Having said that, from a first glance at Grid Dynamics Holdings (NASDAQ:GDYN) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.
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. To calculate this metric for Grid Dynamics Holdings, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.0052 = US$2.0m ÷ (US$436m - US$52m) (Based on the trailing twelve months to September 2023).
So, Grid Dynamics Holdings has an ROCE of 0.5%. In absolute terms, that's a low return and it also under-performs the IT industry average of 12%.
View our latest analysis for Grid Dynamics Holdings
Above you can see how the current ROCE for Grid Dynamics Holdings compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
So How Is Grid Dynamics Holdings' ROCE Trending?
In terms of Grid Dynamics Holdings' historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 0.5% from 45% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.
What We Can Learn From Grid Dynamics Holdings' ROCE
Bringing it all together, while we're somewhat encouraged by Grid Dynamics Holdings' reinvestment in its own business, we're aware that returns are shrinking. Since the stock has gained an impressive 36% over the last three years, investors must think there's better things to come. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.
Like most companies, Grid Dynamics Holdings does come with some risks, and we've found 1 warning sign that you should be aware of.
While Grid Dynamics Holdings 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.