If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, 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. With that in mind, we've noticed some promising trends at BlueScope Steel (ASX:BSL) so let's look a bit deeper.
Understanding Return On Capital Employed (ROCE)
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 BlueScope Steel is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.17 = AU$1.7b ÷ (AU$13b - AU$3.3b) (Based on the trailing twelve months to June 2021).
Thus, BlueScope Steel has an ROCE of 17%. On its own, that's a standard return, however it's much better than the 8.8% generated by the Metals and Mining industry.
In the above chart we have measured BlueScope Steel's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
The Trend Of ROCE
We like the trends that we're seeing from BlueScope Steel. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 17%. 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 44%. 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.
The Bottom Line On BlueScope Steel's ROCE
To sum it up, BlueScope Steel has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And with the stock having performed exceptionally well over the last five years, these patterns are being accounted for by investors. 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.
Like most companies, BlueScope Steel does come with some risks, and we've found 1 warning sign that you should be aware of.
While BlueScope Steel may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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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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