Investors Should Be Encouraged By OEM International's (STO:OEM B) Returns On Capital

What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. Speaking of which, we noticed some great changes in OEM International's (STO:OEM B) returns on capital, so let's have a look.

Understanding 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. To calculate this metric for OEM International, this is the formula:

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

0.42 = kr693m ÷ (kr2.6b - kr1.0b) (Based on the trailing twelve months to September 2022).

Thus, OEM International has an ROCE of 42%. In absolute terms that's a great return and it's even better than the Trade Distributors industry average of 15%.

Our analysis indicates that OEM B is potentially overvalued!

Historical performance is a great place to start when researching a stock so above you can see the gauge for OEM International's ROCE against it's prior returns. If you're interested in investigating OEM International's past further, check out this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

The trends we've noticed at OEM International are quite reassuring. Over the last five years, returns on capital employed have risen substantially to 42%. Basically the business is earning more per dollar of capital invested and in addition to that, 86% more capital is being employed now too. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

The Bottom Line

All in all, it's terrific to see that OEM International is reaping the rewards from prior investments and is growing its capital base. And a remarkable 148% total return over the last five years tells us that investors are expecting more good things to come in the future. In light of that, we think it's worth looking further into this stock because if OEM International can keep these trends up, it could have a bright future ahead.

One more thing: We've identified 2 warning signs with OEM International (at least 1 which is potentially serious) , and understanding them would certainly be useful.

High returns are a key ingredient to strong performance, so check out our free list ofstocks 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.