What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. With that in mind, the ROCE of Decora (WSE:DCR) looks great, so lets see what the trend can tell us.
What is Return On Capital Employed (ROCE)?
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for Decora:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.32 = zł56m ÷ (zł232m - zł56m) (Based on the trailing twelve months to September 2020).
So, Decora has an ROCE of 32%. That's a fantastic return and not only that, it outpaces the average of 11% earned by companies in a similar industry.
Historical performance is a great place to start when researching a stock so above you can see the gauge for Decora's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Decora, check out these free graphs here.
The Trend Of ROCE
We like the trends that we're seeing from Decora. Over the last five years, returns on capital employed have risen substantially to 32%. The amount of capital employed has increased too, by 22%. So we're very much inspired by what we're seeing at Decora thanks to its ability to profitably reinvest capital.
One more thing to note, Decora has decreased current liabilities to 24% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. So shareholders would be pleased that the growth in returns has mostly come from underlying business performance.
The Key Takeaway
In summary, it's great to see that Decora 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. And with the stock having performed exceptionally well over the last five years, these patterns are being accounted for by investors. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.
One more thing to note, we've identified 2 warning signs with Decora and understanding them should be part of your investment process.
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. 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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