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Returns On Capital Signal Tricky Times Ahead For Water Intelligence (LON:WATR)

There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. Having said that, from a first glance at Water Intelligence (LON:WATR) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Understanding 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. The formula for this calculation on Water Intelligence is:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.094 = US$6.6m ÷ (US$83m - US$13m) (Based on the trailing twelve months to December 2021).

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Thus, Water Intelligence has an ROCE of 9.4%. On its own that's a low return on capital but it's in line with the industry's average returns of 8.6%.

View our latest analysis for Water Intelligence

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In the above chart we have measured Water Intelligence'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 Water Intelligence here for free.

So How Is Water Intelligence's ROCE Trending?

When we looked at the ROCE trend at Water Intelligence, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 9.4% from 12% five years ago. 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.

What We Can Learn From Water Intelligence's ROCE

While returns have fallen for Water Intelligence in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And long term investors must be optimistic going forward because the stock has returned a huge 484% to shareholders in the last five years. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

On a separate note, we've found 2 warning signs for Water Intelligence you'll probably want to know about.

While Water Intelligence isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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