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If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Although, when we looked at Sensata Technologies Holding (NYSE:ST), it didn't seem to tick all of these boxes.
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 Sensata Technologies Holding, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.079 = US$595m ÷ (US$8.4b - US$837m) (Based on the trailing twelve months to June 2021).
So, Sensata Technologies Holding has an ROCE of 7.9%. Ultimately, that's a low return and it under-performs the Electrical industry average of 11%.
In the above chart we have measured Sensata Technologies Holding's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Sensata Technologies Holding.
So How Is Sensata Technologies Holding's ROCE Trending?
In terms of Sensata Technologies Holding's historical ROCE trend, it doesn't exactly demand attention. The company has employed 36% more capital in the last five years, and the returns on that capital have remained stable at 7.9%. This poor ROCE doesn't inspire confidence right now, and with the increase in capital employed, it's evident that the business isn't deploying the funds into high return investments.
The Bottom Line On Sensata Technologies Holding's ROCE
As we've seen above, Sensata Technologies Holding's returns on capital haven't increased but it is reinvesting in the business. Since the stock has gained an impressive 55% over the last five years, investors must think there's better things to come. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.
One more thing to note, we've identified 1 warning sign with Sensata Technologies Holding and understanding it should be part of your investment process.
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.
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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