Action Construction Equipment's (NSE:ACE) Returns On Capital Are Heading Higher

There are a few key trends to look for if we want to identify the next multi-bagger. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. 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 Action Construction Equipment's (NSE:ACE) returns on capital, so let's have a look.

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 Action Construction Equipment is:

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

0.17 = ₹843m ÷ (₹8.9b - ₹3.9b) (Based on the trailing twelve months to December 2020).

So, Action Construction Equipment has an ROCE of 17%. In absolute terms, that's a satisfactory return, but compared to the Machinery industry average of 12% it's much better.

See our latest analysis for Action Construction Equipment

Above you can see how the current ROCE for Action Construction Equipment compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What The Trend Of ROCE Can Tell Us

Action Construction Equipment is displaying some positive trends. Over the last five years, returns on capital employed have risen substantially to 17%. 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 43%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

Another thing to note, Action Construction Equipment has a high ratio of current liabilities to total assets of 44%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Key Takeaway

In summary, it's great to see that Action Construction Equipment can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. Since the stock has returned a staggering 339% to shareholders over the last five years, it looks like investors are recognizing these changes. In light of that, we think it's worth looking further into this stock because if Action Construction Equipment can keep these trends up, it could have a bright future ahead.

Before jumping to any conclusions though, we need to know what value we're getting for the current share price. That's where you can check out our FREE intrinsic value estimation that compares the share price and estimated value.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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This article by Simply Wall St is general in nature. 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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