Here's What Varta's (ETR:VAR1) Strong Returns On Capital Mean

To find a multi-bagger stock, what are the underlying trends we should look for in a business? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. Ergo, when we looked at the ROCE trends at Varta (ETR:VAR1), we liked what we saw.

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

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 Varta, this is the formula:

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

0.21 = €166m ÷ (€1.3b - €467m) (Based on the trailing twelve months to September 2021).

So, Varta has an ROCE of 21%. In absolute terms that's a great return and it's even better than the Electrical industry average of 9.0%.

See our latest analysis for Varta

Above you can see how the current ROCE for Varta 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 Varta.

So How Is Varta's ROCE Trending?

It's hard not to be impressed by Varta's returns on capital. Over the past four years, ROCE has remained relatively flat at around 21% and the business has deployed 543% more capital into its operations. With returns that high, it's great that the business can continually reinvest its money at such appealing rates of return. If these trends can continue, it wouldn't surprise us if the company became a multi-bagger.

In Conclusion...

In short, we'd argue Varta has the makings of a multi-bagger since its been able to compound its capital at very profitable rates of return. On top of that, the stock has rewarded shareholders with a remarkable 176% return to those who've held over the last three years. 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: We've identified 3 warning signs with Varta (at least 1 which shouldn't be ignored) , and understanding these would certainly be useful.

If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning high returns on equity.

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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.