To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Speaking of which, we noticed some great changes in Deswell Industries' (NASDAQ:DSWL) returns on capital, so let's have a look.

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 Deswell Industries:

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

0.037 = US$3.4m ÷ (US$112m - US$20m) (Based on the trailing twelve months to September 2023).

Thus, Deswell Industries has an ROCE of 3.7%. Ultimately, that's a low return and it under-performs the Electronic industry average of 12%.

Check out our latest analysis for Deswell Industries

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you want to delve into the historical earnings, revenue and cash flow of Deswell Industries, check out these free graphs here.

What The Trend Of ROCE Can Tell Us

While the ROCE isn't as high as some other companies out there, it's great to see it's on the up. More specifically, while the company has kept capital employed relatively flat over the last five years, the ROCE has climbed 429% in that same time. So it's likely that the business is now reaping the full benefits of its past investments, since the capital employed hasn't changed considerably. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.

The Bottom Line

To bring it all together, Deswell Industries has done well to increase the returns it's generating from its capital employed. Considering the stock has delivered 2.4% to its stockholders over the last five years, it may be fair to think that investors aren't fully aware of the promising trends yet. Given that, we'd look further into this stock in case it has more traits that could make it multiply in the long term.