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. With that in mind, the ROCE of Luceco (LON:LUCE) looks attractive right now, so lets see what the trend of returns 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 Luceco is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.38 = UK£40m ÷ (UK£173m - UK£68m) (Based on the trailing twelve months to June 2021).
Thus, Luceco has an ROCE of 38%. That's a fantastic return and not only that, it outpaces the average of 14% earned by companies in a similar industry.
Above you can see how the current ROCE for Luceco 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 Luceco.
What Does the ROCE Trend For Luceco Tell Us?
Luceco deserves to be commended in regards to it's returns. The company has consistently earned 38% for the last five years, and the capital employed within the business has risen 218% in that time. With returns that high, it's great that the business can continually reinvest its money at such appealing rates of return. If Luceco can keep this up, we'd be very optimistic about its future.
On a side note, Luceco has done well to reduce current liabilities to 40% of total assets over the last five years. Effectively suppliers now fund less of the business, which can lower some elements of risk.
The Bottom Line On Luceco's ROCE
In summary, we're delighted to see that Luceco has been compounding returns by reinvesting at consistently high rates of return, as these are common traits of a multi-bagger. On top of that, the stock has rewarded shareholders with a remarkable 152% return to those who've held over the last five years. So even though the stock might be more "expensive" than it was before, we think the strong fundamentals warrant this stock for further research.
Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 4 warning signs for Luceco (of which 1 shouldn't be ignored!) that you should know about.
High returns are a key ingredient to strong performance, so check out our free list ofstocks earning high returns on equity with solid balance sheets.
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.
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