Here's What Ferguson's (NYSE:FERG) Strong Returns On Capital Mean

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So, when we ran our eye over Ferguson's (NYSE:FERG) trend of ROCE, we really liked what we saw.

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. To calculate this metric for Ferguson, this is the formula:

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

0.24 = US$2.6b ÷ (US$16b - US$4.8b) (Based on the trailing twelve months to January 2024).

Therefore, Ferguson has an ROCE of 24%. That's a fantastic return and not only that, it outpaces the average of 13% earned by companies in a similar industry.

View our latest analysis for Ferguson

Above you can see how the current ROCE for Ferguson 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 Ferguson for free.

What Does the ROCE Trend For Ferguson Tell Us?

We'd be pretty happy with returns on capital like Ferguson. The company has employed 53% more capital in the last five years, and the returns on that capital have remained stable at 24%. With returns that high, it's great that the business can continually reinvest its money at such appealing rates of return. If Ferguson can keep this up, we'd be very optimistic about its future.

The Key Takeaway

Ferguson has demonstrated its proficiency by generating high returns on increasing amounts of capital employed, which we're thrilled about. And the stock has done incredibly well with a 251% return over the last five years, so long term investors are no doubt ecstatic with that result. So even though the stock might be more "expensive" than it was before, we think the strong fundamentals warrant this stock for further research.

One more thing, we've spotted 1 warning sign facing Ferguson that you might find interesting.

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.