Should We Be Excited About The Trends Of Returns At Fortnox (NGM:FNOX)?

What trends should we look for it we want to identify stocks that can 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, while the ROCE is currently high for Fortnox (NGM:FNOX), we aren't jumping out of our chairs because returns are decreasing.

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. Analysts use this formula to calculate it for Fortnox:

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

0.43 = kr246m ÷ (kr849m - kr283m) (Based on the trailing twelve months to September 2020).

So, Fortnox has an ROCE of 43%. In absolute terms that's a great return and it's even better than the Software industry average of 15%.

See our latest analysis for Fortnox

Above you can see how the current ROCE for Fortnox 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 Fortnox.

So How Is Fortnox's ROCE Trending?

When we looked at the ROCE trend at Fortnox, we didn't gain much confidence. Historically returns on capital were even higher at 58%, but they have dropped 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, Fortnox has done well to pay down its current liabilities to 33% 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.

The Key Takeaway

In summary, despite lower returns in the short term, we're encouraged to see that Fortnox is reinvesting for growth and has higher sales as a result. And long term investors must be optimistic going forward because the stock has returned a huge 2,382% to shareholders in the last five years. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.

Fortnox does have some risks, we noticed 2 warning signs (and 1 which is a bit concerning) we think you should know about.

If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning high returns on equity.

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