Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we’ll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. 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 ran our eye over Colonial Motor’s (NZSE:CMO) trend of ROCE, we liked what we saw.
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 Colonial Motor, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.18 = NZ$53m ÷ (NZ$463m – NZ$173m) (Based on the trailing twelve months to December 2021).
Therefore, Colonial Motor has an ROCE of 18%. That’s a pretty standard return and it’s in line with the industry average of 18%.
While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you’d like to look at how Colonial Motor has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
The Trend Of ROCE
The trend of ROCE doesn’t stand out much, but returns on a whole are decent. The company has consistently earned 18% for the last five years, and the capital employed within the business has risen 63% in that time. Since 18% is a moderate ROCE though, it’s good to see a business can continue to reinvest at these decent rates of return. Over long periods of time, returns like these might not be too exciting, but with consistency they can pay off in terms of share price returns.
What We Can Learn From Colonial Motor’s ROCE
The main thing to remember is that Colonial Motor has proven its ability to continually reinvest at respectable rates of return. And the stock has followed suit returning a meaningful 86% to shareholders over the last five years. So even though the stock might be more “expensive” than it was before, we think the strong fundamentals warrant this stock for further research.
One more thing to note, we’ve identified 1 warning sign with Colonial Motor 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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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.