What Should You Know About FARO Technologies Inc’s (NASDAQ:FARO) Return On Capital?

I am writing today to help inform people who are new to the stock market and want a simplistic look at the return on FARO Technologies Inc (NASDAQ:FARO) stock.

Purchasing FARO Technologies gives you an ownership stake in the company. As a result, your investment is being put to work to fund operations and if you want to earn an attractive return on your investment, the business needs to be making an adequate amount of money from the funds you provide. You need to pay attention to this because your return on investment is linked to dividends and internal investments to improve the business, which can only occur if the company is expected to produce adequate earnings with the capital that has been provided. To understand FARO Technologies’s capital returns we will look at a useful metric called return on capital employed. This will tell us if the company is growing your capital and placing you in good stead to sell your shares at a profit.

Check out our latest analysis for FARO Technologies

FARO Technologies’s Return On Capital Employed

Choosing to invest in FARO Technologies comes at the cost of investing in another potentially favourable company. Therefore all else aside, your investment in a certain company represents a vote of confidence that the money used to buy the stock will grow larger than if invested elsewhere. So the business’ ability to grow the size of your capital is very important and can be assessed by comparing the return on capital you can get on your investment with a hurdle rate that depends on the other return possibilities you can identify. A good metric to use is return on capital employed (ROCE), which helps us gauge how much income can be created from the funds needed to operate the business. This metric will tell us if FARO Technologies is good at growing investor capital. I have calculated FARO Technologies’s ROCE for you below:

ROCE Calculation for FARO

Return on Capital Employed (ROCE) = Earnings Before Tax (EBT) ÷ (Capital Employed)

Capital Employed = (Total Assets – Current Liabilities)

∴ ROCE = US$14.39m ÷ (US$464.47m – US$71.51m) = 3.66%

The calculation above shows that FARO’s earnings were 3.66% of capital employed. This makes FARO Technologies disappointing when compared to a robust 15% ROCE yardstick. So if this rate continues in to the future, investor capital may be able to compound over time, but not to standard that investors should be aiming for.

NasdaqGS:FARO Last Perf August 17th 18
NasdaqGS:FARO Last Perf August 17th 18

Why is this the case?

FARO Technologies’s relatively poor ROCE is tied to the movement in two factors that change over time: earnings and capital requirements. At the moment FARO Technologies is in an adverse position, but this can change if these factors improve. So it is important for investors to understand what is going on under the hood and look at how these variables have been behaving. Three years ago, FARO’s ROCE was 7.52%, which means the company’s capital returns have worsened. In this time, earnings have fallen from US$28.06m to US$14.39m and capital employed has increased due to an increase in total assets employed , which means the company’s ROCE has shrunk as a result of falling earnings and simultaneous increases in capital requirements.

Next Steps

FARO’s investors have experienced a downward trend in ROCE and it is currently at a level that makes us question whether the company is capable of providing a suitable return on investment. However, it is important to know that ROCE does not dictate returns alone, so you need to consider other fundamentals in the business such as future prospects and valuation. FARO Technologies’s fundamentals can be explored with the links I’ve provided below if you are interested, otherwise you can start looking at other high-performing stocks.

  1. Future Outlook: What are well-informed industry analysts predicting for FARO’s future growth? Take a look at our free research report of analyst consensus for FARO’s outlook.
  2. Valuation: What is FARO worth today? Despite the unattractive ROCE, is the outlook correctly factored in to the price? The intrinsic value infographic in our free research report helps visualize whether FARO is currently undervalued by the market.
  3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.