What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. However, after investigating Dow (NYSE:DOW), we don't think it's current trends fit the mold of a multi-bagger.
What Is Return On Capital Employed (ROCE)?
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 Dow, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.06 = US$2.9b ÷ (US$58b - US$10b) (Based on the trailing twelve months to September 2023).
Therefore, Dow has an ROCE of 6.0%. In absolute terms, that's a low return and it also under-performs the Chemicals industry average of 10%.
See our latest analysis for Dow
In the above chart we have measured Dow'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 Dow here for free.
What The Trend Of ROCE Can Tell Us
Things have been pretty stable at Dow, with its capital employed and returns on that capital staying somewhat the same for the last four years. This tells us the company isn't reinvesting in itself, so it's plausible that it's past the growth phase. So don't be surprised if Dow doesn't end up being a multi-bagger in a few years time. That being the case, it makes sense that Dow has been paying out 63% of its earnings to its shareholders. These mature businesses typically have reliable earnings and not many places to reinvest them, so the next best option is to put the earnings into shareholders pockets.
The Bottom Line
In summary, Dow isn't compounding its earnings but is generating stable returns on the same amount of capital employed. And investors may be recognizing these trends since the stock has only returned a total of 18% to shareholders over the last three years. As a result, if you're hunting for a multi-bagger, we think you'd have more luck elsewhere.
Dow does have some risks though, and we've spotted 3 warning signs for Dow that you might be interested in.
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.