Graco (NYSE:GGG) Might Be Having Difficulty Using Its Capital Effectively

What are the early trends we should look for to identify a stock that could 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 Graco (NYSE:GGG), we aren't jumping out of our chairs because returns are decreasing.

AI is about to change healthcare. These 20 stocks are working on everything from early diagnostics to drug discovery. The best part - they are all under $10bn in marketcap - there is still time to get in early.

What Is Return On Capital Employed (ROCE)?

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

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

0.21 = US$567m ÷ (US$3.1b - US$406m) (Based on the trailing twelve months to December 2024).

So, Graco has an ROCE of 21%. In absolute terms that's a great return and it's even better than the Machinery industry average of 12%.

View our latest analysis for Graco

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

What The Trend Of ROCE Can Tell Us

In terms of Graco's historical ROCE movements, the trend isn't fantastic. To be more specific, while the ROCE is still high, it's fallen from 30% where it was five years ago. However it looks like Graco might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.

Our Take On Graco's ROCE

Bringing it all together, while we're somewhat encouraged by Graco's reinvestment in its own business, we're aware that returns are shrinking. Although the market must be expecting these trends to improve because the stock has gained 92% over the last five years. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

While Graco doesn't shine too bright in this respect, it's still worth seeing if the company is trading at attractive prices. You can find that out with our FREE intrinsic value estimation for GGG on our platform.

If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets here.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.