What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. And in light of that, the trends we're seeing at Quarto Group's (LON:QRT) look very promising so lets take a look.
Return On Capital Employed (ROCE): What is it?
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 Quarto Group is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.21 = US$11m ÷ (US$153m - US$98m) (Based on the trailing twelve months to December 2020).
So, Quarto Group has an ROCE of 21%. That's a fantastic return and not only that, it outpaces the average of 6.9% earned by companies in a similar industry.
While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you want to delve into the historical earnings, revenue and cash flow of Quarto Group, check out these free graphs here.
What Can We Tell From Quarto Group's ROCE Trend?
You'd find it hard not to be impressed with the ROCE trend at Quarto Group. The figures show that over the last five years, returns on capital have grown by 84%. That's a very favorable trend because this means that the company is earning more per dollar of capital that's being employed. Speaking of capital employed, the company is actually utilizing 61% less than it was five years ago, which can be indicative of a business that's improving its efficiency. If this trend continues, the business might be getting more efficient but it's shrinking in terms of total assets.
For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. The current liabilities has increased to 64% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. And with current liabilities at those levels, that's pretty high.
The Bottom Line On Quarto Group's ROCE
In summary, it's great to see that Quarto Group has been able to turn things around and earn higher returns on lower amounts of capital. And since the stock has fallen 67% over the last five years, there might be an opportunity here. So researching this company further and determining whether or not these trends will continue seems justified.
Quarto Group does have some risks, we noticed 5 warning signs (and 1 which can't be ignored) we think you should know about.
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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