Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So when we looked at Sanmina (NASDAQ:SANM) and its trend of ROCE, we really liked what we saw.
Return On Capital Employed (ROCE): What is it?
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Sanmina:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.12 = US$274m ÷ (US$3.8b - US$1.5b) (Based on the trailing twelve months to January 2021).
Thus, Sanmina has an ROCE of 12%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Electronic industry average of 11%.
In the above chart we have measured Sanmina'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 Sanmina here for free.
How Are Returns Trending?
Sanmina's ROCE growth is quite impressive. More specifically, while the company has kept capital employed relatively flat over the last five years, the ROCE has climbed 23% in that same time. Basically the business is generating higher returns from the same amount of capital and that is proof that there are improvements in the company's efficiencies. On that front, things are looking good so it's worth exploring what management has said about growth plans going forward.
Our Take On Sanmina's ROCE
As discussed above, Sanmina appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 81% return over the last five years. In light of that, we think it's worth looking further into this stock because if Sanmina can keep these trends up, it could have a bright future ahead.
One more thing to note, we've identified 1 warning sign with Sanmina and understanding this should be part of your investment process.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.
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