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. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. With that in mind, we've noticed some promising trends at Solvay (EBR:SOLB) so let's look a bit deeper.
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 Solvay is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.13 = €2.2b ÷ (€24b - €7.1b) (Based on the trailing twelve months to September 2022).
So, Solvay has an ROCE of 13%. By itself that's a normal return on capital and it's in line with the industry's average returns of 13%.
View our latest analysis for Solvay
In the above chart we have measured Solvay's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Solvay.
How Are Returns Trending?
Solvay is showing promise given that its ROCE is trending up and to the right. Looking at the data, we can see that even though capital employed in the business has remained relatively flat, the ROCE generated has risen by 95% over the last five years. So it's likely that the business is now reaping the full benefits of its past investments, since the capital employed hasn't changed considerably. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.
The Bottom Line On Solvay's ROCE
In summary, we're delighted to see that Solvay has been able to increase efficiencies and earn higher rates of return on the same amount of capital. Since the total return from the stock has been almost flat over the last five years, there might be an opportunity here if the valuation looks good. That being the case, research into the company's current valuation metrics and future prospects seems fitting.
Like most companies, Solvay does come with some risks, and we've found 1 warning sign that you should be aware of.
While Solvay 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.
About ENXTBR:SOLB
Good value with reasonable growth potential.
