To find a multi-bagger stock, what are the underlying trends we should look for in a business? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. In light of that, when we looked at InnovAge Holding (NASDAQ:INNV) and its ROCE trend, we weren't exactly thrilled.
Understanding 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 InnovAge Holding, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.04 = US$19m ÷ (US$558m - US$94m) (Based on the trailing twelve months to March 2022).
Therefore, InnovAge Holding has an ROCE of 4.0%. Ultimately, that's a low return and it under-performs the Healthcare industry average of 10%.
Above you can see how the current ROCE for InnovAge Holding compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for InnovAge Holding.
What Does the ROCE Trend For InnovAge Holding Tell Us?
On the surface, the trend of ROCE at InnovAge Holding doesn't inspire confidence. To be more specific, ROCE has fallen from 15% over the last two years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.
The Bottom Line On InnovAge Holding's ROCE
Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for InnovAge Holding. But since the stock has dived 79% in the last year, there could be other drivers that are influencing the business' outlook. Regardless, reinvestment can pay off in the long run, so we think astute investors may want to look further into this stock.
On a final note, we've found 1 warning sign for InnovAge Holding that we think you should be aware of.
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.