Investors Should Be Encouraged By CEAT's (NSE:CEATLTD) Returns On Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. With that in mind, the ROCE of CEAT (NSE:CEATLTD) looks great, so lets see what the trend can tell us.

What Is 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. Analysts use this formula to calculate it for CEAT:

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

0.20 = ₹11b ÷ (₹100b - ₹43b) (Based on the trailing twelve months to June 2024).

So, CEAT has an ROCE of 20%. That's a fantastic return and not only that, it outpaces the average of 14% earned by companies in a similar industry.

Check out our latest analysis for CEAT

In the above chart we have measured CEAT's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for CEAT .

What Can We Tell From CEAT's ROCE Trend?

We like the trends that we're seeing from CEAT. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 20%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 32%. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.

On a side note, we noticed that the improvement in ROCE appears to be partly fueled by an increase in current liabilities. Effectively this means that suppliers or short-term creditors are now funding 43% of the business, which is more than it was five years ago. And with current liabilities at those levels, that's pretty high.

The Bottom Line

A company that is growing its returns on capital and can consistently reinvest in itself is a highly sought after trait, and that's what CEAT has. Since the stock has returned a staggering 216% to shareholders over the last five years, it looks like investors are recognizing these changes. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

Like most companies, CEAT does come with some risks, and we've found 2 warning signs that you should be aware of.

If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets here.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com