Softronic (STO:SOF B) Is Very Good At Capital Allocation

To find a multi-bagger stock, what are the underlying trends we should look for in a business? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. So when we looked at the ROCE trend of Softronic (STO:SOF B) we really liked what we saw.

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

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. The formula for this calculation on Softronic is:

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

0.34 = kr105m ÷ (kr460m - kr150m) (Based on the trailing twelve months to December 2023).

So, Softronic has an ROCE of 34%. That's a fantastic return and not only that, it outpaces the average of 19% earned by companies in a similar industry.

Check out our latest analysis for Softronic

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how Softronic has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What Can We Tell From Softronic's ROCE Trend?

Softronic is showing promise given that its ROCE is trending up and to the right. The figures show that over the last five years, ROCE has grown 37% whilst employing roughly the same amount of capital. So it's likely that the business is now reaping the full benefits of its past investments, since the capital employed hasn't changed considerably. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.

Our Take On Softronic's ROCE

In summary, we're delighted to see that Softronic has been able to increase efficiencies and earn higher rates of return on the same amount of capital. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 82% return over the last five years. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

One more thing to note, we've identified 1 warning sign with Softronic and understanding this should be part of your investment process.

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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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.