Investors Should Be Encouraged By Watsco's (NYSE:WSO) Returns On Capital

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. With that in mind, the ROCE of Watsco (NYSE:WSO) looks great, so lets see what the trend can tell us.

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 Watsco, this is the formula:

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

0.28 = US$804m ÷ (US$3.8b - US$953m) (Based on the trailing twelve months to March 2023).

Therefore, Watsco has an ROCE of 28%. In absolute terms that's a great return and it's even better than the Trade Distributors industry average of 14%.

See our latest analysis for Watsco

Above you can see how the current ROCE for Watsco 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 Watsco here for free.

What Can We Tell From Watsco's ROCE Trend?

Investors would be pleased with what's happening at Watsco. The data shows that returns on capital have increased substantially over the last five years to 28%. The amount of capital employed has increased too, by 68%. 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 Conclusion...

To sum it up, Watsco has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And with the stock having performed exceptionally well over the last five years, these patterns are being accounted for by investors. In light of that, we think it's worth looking further into this stock because if Watsco can keep these trends up, it could have a bright future ahead.

If you'd like to know about the risks facing Watsco, we've discovered 2 warning signs that you should be aware of.

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.

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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.