Vector (NZSE:VCT) Is Reinvesting At Lower Rates Of Return

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. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. However, after investigating Vector (NZSE:VCT), we don't think it's current trends fit the mold of a multi-bagger.

Understanding Return On Capital Employed (ROCE)

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on Vector is:

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

0.046 = NZ$312m ÷ (NZ$7.3b - NZ$505m) (Based on the trailing twelve months to December 2023).

Therefore, Vector has an ROCE of 4.6%. Even though it's in line with the industry average of 5.3%, it's still a low return by itself.

View our latest analysis for Vector

In the above chart we have measured Vector's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for Vector .

What Does the ROCE Trend For Vector Tell Us?

On the surface, the trend of ROCE at Vector doesn't inspire confidence. To be more specific, ROCE has fallen from 6.5% over the last five years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

In Conclusion...

In summary, despite lower returns in the short term, we're encouraged to see that Vector is reinvesting for growth and has higher sales as a result. In light of this, the stock has only gained 22% over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

Vector does have some risks, we noticed 3 warning signs (and 2 which don't sit too well with us) we think you should know about.

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. 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