If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Speaking of which, we noticed some great changes in Nova Technology's (GTSM:6613) returns on capital, so let's have a look.
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. Analysts use this formula to calculate it for Nova Technology:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.25 = NT$640m ÷ (NT$4.5b - NT$2.0b) (Based on the trailing twelve months to September 2020).
So, Nova Technology has an ROCE of 25%. That's a fantastic return and not only that, it outpaces the average of 9.3% earned by companies in a similar industry.
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're interested in investigating Nova Technology's past further, check out this free graph of past earnings, revenue and cash flow.
What Does the ROCE Trend For Nova Technology Tell Us?
The trends we've noticed at Nova Technology are quite reassuring. Over the last five years, returns on capital employed have risen substantially to 25%. Basically the business is earning more per dollar of capital invested and in addition to that, 212% more capital is being employed now too. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.
In another part of our analysis, we noticed that the company's ratio of current liabilities to total assets decreased to 44%, which broadly means the business is relying less on its suppliers or short-term creditors to fund its operations. So shareholders would be pleased that the growth in returns has mostly come from underlying business performance. Nevertheless, there are some potential risks the company is bearing with current liabilities that high, so just keep that in mind.
Our Take On Nova Technology's ROCE
All in all, it's terrific to see that Nova Technology is reaping the rewards from prior investments and is growing its capital base. Investors may not be impressed by the favorable underlying trends yet because over the last three years the stock has only returned 0.9% to shareholders. Given that, we'd look further into this stock in case it has more traits that could make it multiply in the long term.
Nova Technology does have some risks though, and we've spotted 1 warning sign for Nova Technology that you might be interested in.
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.
If you decide to trade Nova Technology, use the lowest-cost* platform that is rated #1 Overall by Barron’s, Interactive Brokers. Trade stocks, options, futures, forex, bonds and funds on 135 markets, all from a single integrated account. Promoted
This article by Simply Wall St is general in nature. 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.
*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.