If you’re looking for a multi-bagger, there’s a few things to keep an eye out for. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. Having said that, from a first glance at 3M (NYSE:MMM) we aren’t jumping out of our chairs at how returns are trending, but let’s have a deeper look.
Return On Capital Employed (ROCE): What is it?
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. The formula for this calculation on 3M is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.18 = US$6.7b ÷ (US$45b – US$7.4b) (Based on the trailing twelve months to September 2020).
Therefore, 3M has an ROCE of 18%. In absolute terms, that’s a satisfactory return, but compared to the Industrials industry average of 8.6% it’s much better.
Check out our latest analysis for 3M
In the above chart we have measured 3M’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 3M here for free.
What Does the ROCE Trend For 3M Tell Us?
On the surface, the trend of ROCE at 3M doesn’t inspire confidence. Around five years ago the returns on capital were 27%, but since then they’ve fallen to 18%. However it looks like 3M 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’s worth keeping an eye on the company’s earnings from here on to see if these investments do end up contributing to the bottom line.
Bringing it all together, while we’re somewhat encouraged by 3M’s reinvestment in its own business, we’re aware that returns are shrinking. And investors may be recognizing these trends since the stock has only returned a total of 39% to shareholders over the last five years. Therefore, if you’re looking for a multi-bagger, we’d propose looking at other options.
On a separate note, we’ve found 2 warning signs for 3M you’ll probably want to know about.
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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