Will Ferrum's (WSE:FER) Growth In ROCE Persist?

There are a few key trends to look for if we want to identify the next multi-bagger. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. So when we looked at Ferrum (WSE:FER) and its trend of ROCE, we really liked what we saw.

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. The formula for this calculation on Ferrum is:

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

0.0071 = zł1.0m ÷ (zł428m - zł283m) (Based on the trailing twelve months to September 2020).

Thus, Ferrum has an ROCE of 0.7%. In absolute terms, that's a low return and it also under-performs the Metals and Mining industry average of 8.6%.

Check out our latest analysis for Ferrum

Historical performance is a great place to start when researching a stock so above you can see the gauge for Ferrum's ROCE against it's prior returns. If you want to delve into the historical earnings, revenue and cash flow of Ferrum, check out these free graphs here.

What The Trend Of ROCE Can Tell Us

While there are companies with higher returns on capital out there, we still find the trend at Ferrum promising. More specifically, while the company has kept capital employed relatively flat over the last five years, the ROCE has climbed 136% in that same time. So our take on this is that the business has increased efficiencies to generate these higher returns, all the while not needing to make any additional investments. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.

On a side note, Ferrum's current liabilities are still rather high at 66% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Bottom Line

To sum it up, Ferrum is collecting higher returns from the same amount of capital, and that's impressive. And since the stock has fallen 18% over the last five years, there might be an opportunity here. With that in mind, we believe the promising trends warrant this stock for further investigation.

One more thing: We've identified 3 warning signs with Ferrum (at least 1 which is a bit unpleasant) , and understanding them would certainly be useful.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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