Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. With that in mind, the ROCE of Yellow Cake (LON:YCA) looks great, so lets see what the trend can tell us.
Understanding Return On Capital Employed (ROCE)
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. The formula for this calculation on Yellow Cake is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.26 = US$178m ÷ (US$683m - US$8.1m) (Based on the trailing twelve months to September 2021).
Thus, Yellow Cake has an ROCE of 26%. That's a fantastic return and not only that, it outpaces the average of 14% earned by companies in a similar industry.
In the above chart we have measured Yellow Cake's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Yellow Cake here for free.
What Does the ROCE Trend For Yellow Cake Tell Us?
The fact that Yellow Cake is now generating some pre-tax profits from its prior investments is very encouraging. The company was generating losses two years ago, but now it's earning 26% which is a sight for sore eyes. And unsurprisingly, like most companies trying to break into the black, Yellow Cake is utilizing 165% more capital than it was two years ago. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.
The Bottom Line On Yellow Cake's ROCE
Long story short, we're delighted to see that Yellow Cake's reinvestment activities have paid off and the company is now profitable. And with a respectable 44% awarded to those who held the stock over the last three years, you could argue that these developments are starting to get the attention they deserve. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.
If you want to continue researching Yellow Cake, you might be interested to know about the 3 warning signs that our analysis has discovered.
Yellow Cake is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.
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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.