There Are Reasons To Feel Uneasy About AB SKF's (STO:SKF B) Returns On Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after investigating AB SKF (STO:SKF B), we don't think it's current trends fit the mold of a multi-bagger.

What Is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for AB SKF:

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

0.098 = kr8.5b ÷ (kr116b - kr29b) (Based on the trailing twelve months to September 2022).

Thus, AB SKF has an ROCE of 9.8%. In absolute terms, that's a low return and it also under-performs the Machinery industry average of 13%.

View our latest analysis for AB SKF

Above you can see how the current ROCE for AB SKF 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 SKF here for free.

The Trend Of ROCE

When we looked at the ROCE trend at AB SKF, we didn't gain much confidence. To be more specific, ROCE has fallen from 13% over the last five years. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

The Bottom Line On AB SKF's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that AB SKF is reinvesting for growth and has higher sales as a result. In light of this, the stock has only gained 28% over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

One more thing, we've spotted 2 warning signs facing AB SKF that you might find interesting.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.