What are the early trends we should look for to identify a stock that could multiply in value over the long term? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Speaking of which, we noticed some great changes in Nexans' (EPA:NEX) returns on capital, so let's have a look.
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 Nexans is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.15 = €399m ÷ (€5.6b - €2.9b) (Based on the trailing twelve months to December 2021).
Therefore, Nexans has an ROCE of 15%. By itself that's a normal return on capital and it's in line with the industry's average returns of 15%.
Above you can see how the current ROCE for Nexans 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 Nexans.
What The Trend Of ROCE Can Tell Us
Nexans is showing promise given that its ROCE is trending up and to the right. The figures show that over the last five years, ROCE has grown 77% whilst employing roughly the same amount of capital. So it's likely that the business is now reaping the full benefits of its past investments, since the capital employed hasn't changed considerably. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.
On a separate but related note, it's important to know that Nexans has a current liabilities to total assets ratio of 52%, which we'd consider pretty high. 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. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
The Bottom Line On Nexans' ROCE
As discussed above, Nexans appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 63% return over the last five years. In light of that, we think it's worth looking further into this stock because if Nexans can keep these trends up, it could have a bright future ahead.
If you want to continue researching Nexans, you might be interested to know about the 2 warning signs that our analysis has discovered.
While Nexans 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.
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.