NorthWestern (NASDAQ:NWE) Might Be Having Difficulty Using Its Capital Effectively

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. Having said that, from a first glance at NorthWestern (NASDAQ:NWE) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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 NorthWestern, this is the formula:

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

0.042 = US$267m ÷ (US$6.8b - US$409m) (Based on the trailing twelve months to March 2022).

So, NorthWestern has an ROCE of 4.2%. On its own, that's a low figure but it's around the 4.7% average generated by the Integrated Utilities industry.

Check out our latest analysis for NorthWestern

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

What Does the ROCE Trend For NorthWestern Tell Us?

In terms of NorthWestern's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 4.2% from 5.5% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

The Bottom Line On NorthWestern's ROCE

In summary, NorthWestern is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Unsurprisingly, the stock has only gained 13% over the last five years, which potentially indicates that investors are accounting for this going forward. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.

If you want to know some of the risks facing NorthWestern we've found 3 warning signs (1 is potentially serious!) that you should be aware of before investing here.

While NorthWestern isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.