If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, 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. So, when we ran our eye over TerraVest Industries' (TSE:TVK) trend of ROCE, we liked what we saw.
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 TerraVest Industries:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.15 = CA$40m ÷ (CA$316m - CA$53m) (Based on the trailing twelve months to December 2020).
Therefore, TerraVest Industries has an ROCE of 15%. On its own, that's a standard return, however it's much better than the 8.2% generated by the Energy Services industry.
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'd like to look at how TerraVest Industries has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
What Does the ROCE Trend For TerraVest Industries Tell Us?
While the returns on capital are good, they haven't moved much. Over the past five years, ROCE has remained relatively flat at around 15% and the business has deployed 70% more capital into its operations. 15% is a pretty standard return, and it provides some comfort knowing that TerraVest Industries has consistently earned this amount. Over long periods of time, returns like these might not be too exciting, but with consistency they can pay off in terms of share price returns.
In the end, TerraVest Industries has proven its ability to adequately reinvest capital at good rates of return. And the stock has done incredibly well with a 238% return over the last five years, so long term investors are no doubt ecstatic with that result. So while the positive underlying trends may be accounted for by investors, we still think this stock is worth looking into further.
One more thing to note, we've identified 3 warning signs with TerraVest Industries and understanding these should be part of your investment process.
While TerraVest Industries isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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