WestStar Industrial (ASX:WSI) Will Be Hoping To Turn Its Returns On Capital Around

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Looking at WestStar Industrial (ASX:WSI), it does have a high ROCE right now, but lets see how returns are trending.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on WestStar Industrial is:

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

0.29 = AU$8.4m ÷ (AU$79m - AU$50m) (Based on the trailing twelve months to December 2022).

Therefore, WestStar Industrial has an ROCE of 29%. In absolute terms that's a great return and it's even better than the Metals and Mining industry average of 10%.

View our latest analysis for WestStar Industrial

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 want to delve into the historical earnings, revenue and cash flow of WestStar Industrial, check out these free graphs here.

What The Trend Of ROCE Can Tell Us

In terms of WestStar Industrial's historical ROCE movements, the trend isn't fantastic. Historically returns on capital were even higher at 48%, but they have dropped over the last three years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, WestStar Industrial has decreased its current liabilities to 63% of total assets. So we could link some of this to the decrease in ROCE. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE. Either way, they're still at a pretty high level, so we'd like to see them fall further if possible.

What We Can Learn From WestStar Industrial's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that WestStar Industrial is reinvesting for growth and has higher sales as a result. These trends are starting to be recognized by investors since the stock has delivered a 29% gain to shareholders who've held over the last five years. So this stock may still be an appealing investment opportunity, if other fundamentals prove to be sound.

WestStar Industrial does have some risks though, and we've spotted 2 warning signs for WestStar Industrial that you might be interested in.

If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning high 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.