Returns Are Gaining Momentum At AB (WSE:ABE)

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. So on that note, AB (WSE:ABE) looks quite promising in regards to its trends of return on capital.

Understanding 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. The formula for this calculation on AB is:

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

0.16 = zł211m ÷ (zł3.4b - zł2.1b) (Based on the trailing twelve months to June 2022).

So, AB has an ROCE of 16%. That's a relatively normal return on capital, and it's around the 14% generated by the Electronic industry.

Our analysis indicates that ABE is potentially undervalued!

Above you can see how the current ROCE for AB compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering AB here for free.

What The Trend Of ROCE Can Tell Us

Investors would be pleased with what's happening at AB. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 16%. Basically the business is earning more per dollar of capital invested and in addition to that, 41% more capital is being employed now too. 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.

For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. The current liabilities has increased to 61% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. And with current liabilities at those levels, that's pretty high.

In Conclusion...

All in all, it's terrific to see that AB is reaping the rewards from prior investments and is growing its capital base. Since the stock has returned a solid 73% to shareholders over the last five years, it's fair to say investors are beginning to recognize these changes. Therefore, we think it would be worth your time to check if these trends are going to continue.

One more thing, we've spotted 1 warning sign facing AB that you might find interesting.

While AB isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.