Yahoo Finance We're Watching These Trends At Smith & Nephew (LON:SN.)
Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. However, after investigating Smith & Nephew (LON:SN.), we don't think it's current trends fit the mold of a multi-bagger.
Return On Capital Employed (ROCE): What is it?
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. Analysts use this formula to calculate it for Smith & Nephew:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.066 = US$531m ÷ (US$9.5b - US$1.5b) (Based on the trailing twelve months to June 2020).
Therefore, Smith & Nephew has an ROCE of 6.6%. On its own, that's a low figure but it's around the 8.2% average generated by the Medical Equipment industry.
See our latest analysis for Smith & Nephew
Above you can see how the current ROCE for Smith & Nephew 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 Smith & Nephew.
What The Trend Of ROCE Can Tell Us
In terms of Smith & Nephew's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 16% over the last five years. However it looks like Smith & Nephew might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.
The Bottom Line On Smith & Nephew's ROCE
In summary, Smith & Nephew is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Since the stock has gained an impressive 58% over the last five years, investors must think there's better things to come. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.
Smith & Nephew does have some risks though, and we've spotted 4 warning signs for Smith & Nephew that you might be interested in.
While Smith & Nephew 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.
This article by Simply Wall St is general in nature. 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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