Returns On Capital Are Showing Encouraging Signs At Tombador Iron (ASX:TI1)

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. So when we looked at Tombador Iron (ASX:TI1) and its trend of ROCE, we really liked what we saw.

What Is 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. Analysts use this formula to calculate it for Tombador Iron:

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

0.12 = AU$5.4m ÷ (AU$55m - AU$9.8m) (Based on the trailing twelve months to June 2022).

So, Tombador Iron has an ROCE of 12%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Metals and Mining industry average of 11%.

See our latest analysis for Tombador Iron

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 Tombador Iron's past further, check out this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

Tombador Iron has recently broken into profitability so their prior investments seem to be paying off. About two years ago the company was generating losses but things have turned around because it's now earning 12% on its capital. Not only that, but the company is utilizing 2,728,349% more capital than before, but that's to be expected from a company trying to break into profitability. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.

On a related note, the company's ratio of current liabilities to total assets has decreased to 18%, which basically reduces it's funding from the likes of short-term creditors or suppliers. So this improvement in ROCE has come from the business' underlying economics, which is great to see.

The Key Takeaway

In summary, it's great to see that Tombador Iron has managed to break into profitability and is continuing to reinvest in its business. And since the stock has fallen 35% over the last year, there might be an opportunity here. So researching this company further and determining whether or not these trends will continue seems justified.

Tombador Iron does come with some risks though, we found 4 warning signs in our investment analysis, and 1 of those is a bit unpleasant...

While Tombador Iron 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.