Red River Resources' (ASX:RVR) Returns On Capital Are Heading Higher

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. With that in mind, we've noticed some promising trends at Red River Resources (ASX:RVR) so let's look a bit deeper.

Understanding Return On Capital Employed (ROCE)

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for Red River Resources:

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

0.022 = AU$1.8m ÷ (AU$110m - AU$28m) (Based on the trailing twelve months to December 2021).

Therefore, Red River Resources has an ROCE of 2.2%. Ultimately, that's a low return and it under-performs the Metals and Mining industry average of 8.6%.

See our latest analysis for Red River Resources

Above you can see how the current ROCE for Red River Resources compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Red River Resources.

So How Is Red River Resources' ROCE Trending?

The fact that Red River Resources is now generating some pre-tax profits from its prior investments is very encouraging. Shareholders would no doubt be pleased with this because the business was loss-making five years ago but is is now generating 2.2% on its capital. Not only that, but the company is utilizing 92% more capital than before, but that's to be expected from a company trying to break into profitability. This can tell us that the company has plenty of reinvestment opportunities that are able to generate higher returns.

For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. The current liabilities has increased to 25% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. It's worth keeping an eye on this because as the percentage of current liabilities to total assets increases, some aspects of risk also increase.

What We Can Learn From Red River Resources' ROCE

To the delight of most shareholders, Red River Resources has now broken into profitability. And since the stock has fallen 21% over the last five years, there might be an opportunity here. So researching this company further and determining whether or not these trends will continue seems justified.

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

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. 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.