Paycom Software (NYSE:PAYC) Knows How To Allocate Capital Effectively
If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Speaking of which, we noticed some great changes in Paycom Software's (NYSE:PAYC) returns on capital, so let's have a look.
Return On Capital Employed (ROCE): What is it?
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Paycom Software:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.28 = US$227m ÷ (US$1.9b - US$1.1b) (Based on the trailing twelve months to June 2020).
Thus, Paycom Software has an ROCE of 28%. In absolute terms that's a great return and it's even better than the Software industry average of 8.8%.
Check out our latest analysis for Paycom Software
In the above chart we have a measured Paycom Software's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Paycom Software.
What Does the ROCE Trend For Paycom Software Tell Us?
The trends we've noticed at Paycom Software are quite reassuring. The data shows that returns on capital have increased substantially over the last five years to 28%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 501%. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.
One more thing to note, Paycom Software has decreased current liabilities to 58% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. Therefore we can rest assured that the growth in ROCE is a result of the business' fundamental improvements, rather than a cooking class featuring this company's books. Nevertheless, there are some potential risks the company is bearing with current liabilities that high, so just keep that in mind.
The Bottom Line On Paycom Software's ROCE
All in all, it's terrific to see that Paycom Software is reaping the rewards from prior investments and is growing its capital base. And a remarkable 624% total return over the last five years tells us that investors are expecting more good things to come in the future. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.
On a separate note, we've found 1 warning sign for Paycom Software you'll probably want to know about.
Paycom Software is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.
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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