There are a few key trends to look for if we want to identify the next 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. So when we looked at NetScout Systems (NASDAQ:NTCT) and its trend of ROCE, we really liked what we saw.
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. To calculate this metric for NetScout Systems, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.024 = US$53m ÷ (US$2.6b - US$382m) (Based on the trailing twelve months to December 2023).
So, NetScout Systems has an ROCE of 2.4%. Ultimately, that's a low return and it under-performs the Communications industry average of 8.3%.
Above you can see how the current ROCE for NetScout Systems 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 analyst report for NetScout Systems .
What Can We Tell From NetScout Systems' ROCE Trend?
We're delighted to see that NetScout Systems is reaping rewards from its investments and has now broken into profitability. While the business is profitable now, it used to be incurring losses on invested capital five years ago. Additionally, the business is utilizing 24% less capital than it was five years ago, and taken at face value, that can mean the company needs less funds at work to get a return. The reduction could indicate that the company is selling some assets, and considering returns are up, they appear to be selling the right ones.
The Bottom Line
In the end, NetScout Systems has proven it's capital allocation skills are good with those higher returns from less amount of capital. Astute investors may have an opportunity here because the stock has declined 29% in the last five years. That being the case, research into the company's current valuation metrics and future prospects seems fitting.
While NetScout Systems looks impressive, no company is worth an infinite price. The intrinsic value infographic for NTCT helps visualize whether it is currently trading for a fair price.
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.