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Avery Dennison (NYSE:AVY) Knows How to Allocate Capital

Simply Wall St
·3 mins read

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount 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. Ergo, when we looked at the ROCE trends at Avery Dennison (NYSE:AVY), we liked what we saw.

Understanding Return On Capital Employed (ROCE)

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. To calculate this metric for Avery Dennison, this is the formula:

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

0.21 = US$779m ÷ (US$5.7b - US$1.9b) (Based on the trailing twelve months to June 2020).

Therefore, Avery Dennison has an ROCE of 21%. In absolute terms that's a great return and it's even better than the Packaging industry average of 9.4%.

View our latest analysis for Avery Dennison

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In the above chart we have measured Avery Dennison's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Avery Dennison.

What Can We Tell From Avery Dennison's ROCE Trend?

We'd be pretty happy with returns on capital like Avery Dennison. The company has consistently earned 21% for the last five years, and the capital employed within the business has risen 34% in that time. Now considering ROCE is an attractive 21%, this combination is actually pretty appealing because it means the business can consistently put money to work and generate these high returns. If Avery Dennison can keep this up, we'd be very optimistic about its future.

In Conclusion...

Avery Dennison has demonstrated its proficiency by generating high returns on increasing amounts of capital employed, which we're thrilled about. And long term investors would be thrilled with the 141% return they've received 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.

If you'd like to know about the risks facing Avery Dennison, we've discovered 2 warning signs that you should be aware of.

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.

This article by Simply Wall St is general in nature. 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.