Should You Be Excited About Vector Group's (NYSE:VGR) 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? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Speaking of which, we noticed some great changes in Vector Group's (NYSE:VGR) returns on capital, so let's have a look.

What is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on Vector Group is:

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

0.26 = US$270m ÷ (US$1.4b - US$392m) (Based on the trailing twelve months to September 2020).

So, Vector Group has an ROCE of 26%. In absolute terms that's a great return and it's even better than the Tobacco industry average of 16%.

See our latest analysis for Vector Group

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

How Are Returns Trending?

Vector Group's ROCE growth is quite impressive. Looking at the data, we can see that even though capital employed in the business has remained relatively flat, the ROCE generated has risen by 29% over the last five years. So our take on this is that the business has increased efficiencies to generate these higher returns, all the while not needing to make any additional investments. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.

For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. Essentially the business now has suppliers or short-term creditors funding about 27% of its operations, which isn't ideal. Keep an eye out for future increases because when the ratio of current liabilities to total assets gets particularly high, this can introduce some new risks for the business.

The Key Takeaway

To bring it all together, Vector Group has done well to increase the returns it's generating from its capital employed. Since the total return from the stock has been almost flat over the last five years, there might be an opportunity here if the valuation looks good. With that in mind, we believe the promising trends warrant this stock for further investigation.

One more thing: We've identified 6 warning signs with Vector Group (at least 1 which is concerning) , and understanding these would certainly be useful.

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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