Capital Allocation Trends At Ferronordic (STO:FNM) Aren't Ideal

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? 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. Although, when we looked at Ferronordic (STO:FNM), it didn't seem to tick all of these boxes.

Return On Capital Employed (ROCE): What Is It?

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 Ferronordic is:

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

0.19 = kr521m ÷ (kr5.0b - kr2.3b) (Based on the trailing twelve months to September 2022).

Thus, Ferronordic has an ROCE of 19%. In absolute terms, that's a satisfactory return, but compared to the Trade Distributors industry average of 15% it's much better.

See our latest analysis for Ferronordic

Above you can see how the current ROCE for Ferronordic compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Ferronordic.

The Trend Of ROCE

On the surface, the trend of ROCE at Ferronordic doesn't inspire confidence. To be more specific, ROCE has fallen from 37% 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. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Ferronordic has done well to pay down its current liabilities to 46% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money. Keep in mind 46% is still pretty high, so those risks are still somewhat prevalent.

In Conclusion...

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Ferronordic. And there could be an opportunity here if other metrics look good too, because the stock has declined 42% in the last five years. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

Ferronordic does have some risks though, and we've spotted 3 warning signs for Ferronordic that you might be interested in.

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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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.