Yahoo Finance Capital Allocation Trends At Ricardo (LON:RCDO) Aren't Ideal
What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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 Ricardo (LON:RCDO), it didn't seem to tick all of these boxes.
What Is Return On Capital Employed (ROCE)?
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on Ricardo is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.078 = UK£24m ÷ (UK£419m - UK£112m) (Based on the trailing twelve months to June 2022).
Therefore, Ricardo has an ROCE of 7.8%. Ultimately, that's a low return and it under-performs the Professional Services industry average of 15%.
Check out our latest analysis for Ricardo
Above you can see how the current ROCE for Ricardo 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 Ricardo.
What Can We Tell From Ricardo's ROCE Trend?
In terms of Ricardo's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 7.8% from 15% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.
Our Take On Ricardo's ROCE
To conclude, we've found that Ricardo is reinvesting in the business, but returns have been falling. Since the stock has declined 36% over the last five years, investors may not be too optimistic on this trend improving either. Therefore based on the analysis done in this article, we don't think Ricardo has the makings of a multi-bagger.
One more thing, we've spotted 2 warning signs facing Ricardo that you might find interesting.
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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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