Returns On Capital Are Showing Encouraging Signs At Largo Resources (TSE:LGO)

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. Speaking of which, we noticed some great changes in Largo Resources' (TSE:LGO) returns on capital, so let's have a look.

Understanding 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. To calculate this metric for Largo Resources, this is the formula:

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

0.087 = US$24m ÷ (US$318m - US$40m) (Based on the trailing twelve months to June 2021).

Thus, Largo Resources has an ROCE of 8.7%. In absolute terms, that's a low return, but it's much better than the Metals and Mining industry average of 4.2%.

View our latest analysis for Largo Resources

Above you can see how the current ROCE for Largo Resources compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

So How Is Largo Resources' ROCE Trending?

We're delighted to see that Largo Resources is reaping rewards from its investments and is now generating some pre-tax profits. The company was generating losses five years ago, but now it's earning 8.7% which is a sight for sore eyes. And unsurprisingly, like most companies trying to break into the black, Largo Resources is utilizing 26% more capital than it was five years ago. This can tell us that the company has plenty of reinvestment opportunities that are able to generate higher returns.

In Conclusion...

To the delight of most shareholders, Largo Resources has now broken into profitability. Since the stock has returned a staggering 241% to shareholders over the last five years, it looks like investors are recognizing these changes. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

On a separate note, we've found 2 warning signs for Largo 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.

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.

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