Returns At Federal Signal (NYSE:FSS) Are On The Way Up

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'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. Speaking of which, we noticed some great changes in Federal Signal's (NYSE:FSS) returns on capital, so let's have a look.

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

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on Federal Signal is:

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

0.12 = US$172m ÷ (US$1.6b - US$203m) (Based on the trailing twelve months to March 2023).

Therefore, Federal Signal has an ROCE of 12%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Machinery industry average of 11%.

Check out our latest analysis for Federal Signal

In the above chart we have measured Federal Signal's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Federal Signal here for free.

What Does the ROCE Trend For Federal Signal Tell Us?

The trends we've noticed at Federal Signal are quite reassuring. The data shows that returns on capital have increased substantially over the last five years to 12%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 58%. So we're very much inspired by what we're seeing at Federal Signal thanks to its ability to profitably reinvest capital.

The Bottom Line

In summary, it's great to see that Federal Signal can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. And with the stock having performed exceptionally well over the last five years, these patterns are being accounted for by investors. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.

Like most companies, Federal Signal does come with some risks, and we've found 1 warning sign that you should be aware of.

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.