What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we’ll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding 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 NVE (NASDAQ:NVEC), it didn’t seem to tick all of these boxes.
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. The formula for this calculation on NVE is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.18 = US$14m ÷ (US$79m – US$1.2m) (Based on the trailing twelve months to June 2020).
Thus, NVE has an ROCE of 18%. On its own, that’s a standard return, however it’s much better than the 9.7% generated by the Semiconductor industry.
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’re interested in investigating NVE’s past further, check out this free graph of past earnings, revenue and cash flow.
What The Trend Of ROCE Can Tell Us
Over the past five years, NVE’s ROCE has remained relatively flat while the business is using 27% less capital than before. When a company effectively decreases its assets base, it’s not usually a sign to be optimistic on that company. So if this trend continues, don’t be surprised if the business is smaller in a few years time.
The Bottom Line
Overall, we’re not ecstatic to see NVE reducing the amount of capital it employs in the business. And with the stock having returned a mere 37% in the last five years to shareholders, you could argue that they’re aware of these lackluster trends. As a result, if you’re hunting for a multi-bagger, we think you’d have more luck elsewhere.
If you’d like to know about the risks facing NVE, we’ve discovered 2 warning signs that you should be aware of.
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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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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