Here's What To Make Of TransAlta Renewables' (TSE:RNW) Decelerating Rates Of Return

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. However, after briefly looking over the numbers, we don't think TransAlta Renewables (TSE:RNW) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

Return On Capital Employed (ROCE): What is it?

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 TransAlta Renewables:

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

0.03 = CA$89m ÷ (CA$3.6b - CA$593m) (Based on the trailing twelve months to March 2022).

So, TransAlta Renewables has an ROCE of 3.0%. Ultimately, that's a low return and it under-performs the Renewable Energy industry average of 4.5%.

View our latest analysis for TransAlta Renewables

Above you can see how the current ROCE for TransAlta Renewables compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for TransAlta Renewables.

What The Trend Of ROCE Can Tell Us

Things have been pretty stable at TransAlta Renewables, with its capital employed and returns on that capital staying somewhat the same for the last five years. This tells us the company isn't reinvesting in itself, so it's plausible that it's past the growth phase. With that in mind, unless investment picks up again in the future, we wouldn't expect TransAlta Renewables to be a multi-bagger going forward. That probably explains why TransAlta Renewables has been paying out 123% of its earnings as dividends to shareholders. If the company is in fact lacking growth opportunities, that's one of the viable alternatives for the money.

The Bottom Line On TransAlta Renewables' ROCE

We can conclude that in regards to TransAlta Renewables' returns on capital employed and the trends, there isn't much change to report on. Although the market must be expecting these trends to improve because the stock has gained 61% over the last five years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

TransAlta Renewables does have some risks though, and we've spotted 1 warning sign for TransAlta Renewables that you might be interested in.

While TransAlta Renewables 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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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.