There's Been No Shortage Of Growth Recently For STS Group's (ETR:SF3) Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. So when we looked at STS Group (ETR:SF3) and its trend of ROCE, we really 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. The formula for this calculation on STS Group is:

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

0.0049 = €500k ÷ (€231m - €130m) (Based on the trailing twelve months to June 2023).

Thus, STS Group has an ROCE of 0.5%. Ultimately, that's a low return and it under-performs the Machinery industry average of 11%.

View our latest analysis for STS Group

In the above chart we have measured STS Group'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 analyst report for STS Group .

What The Trend Of ROCE Can Tell Us

It's great to see that STS Group has started to generate some pre-tax earnings from prior investments. The company was generating losses five years ago, but now it's turned around, earning 0.5% which is no doubt a relief for some early shareholders. Additionally, the business is utilizing 21% less capital than it was five years ago, and taken at face value, that can mean the company needs less funds at work to get a return. This could potentially mean that the company is selling some of its assets.

On a side note, STS Group's current liabilities are still rather high at 56% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Bottom Line

From what we've seen above, STS Group has managed to increase it's returns on capital all the while reducing it's capital base. Given the stock has declined 39% in the last five years, this could be a good investment if the valuation and other metrics are also appealing. That being the case, research into the company's current valuation metrics and future prospects seems fitting.

If you'd like to know about the risks facing STS Group, we've discovered 2 warning signs that you should be aware of.

While STS Group 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.