What trends should we look for it we want to identify stocks that can multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. So on that note, ESAB (NYSE:ESAB) looks quite promising in regards to its trends of return on capital.
What Is Return On Capital Employed (ROCE)?
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on ESAB is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.12 = US$382m ÷ (US$3.9b - US$618m) (Based on the trailing twelve months to June 2023).
So, ESAB has an ROCE of 12%. That's a pretty standard return and it's in line with the industry average of 12%.
Above you can see how the current ROCE for ESAB compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
How Are Returns Trending?
ESAB is showing promise given that its ROCE is trending up and to the right. Looking at the data, we can see that even though capital employed in the business has remained relatively flat, the ROCE generated has risen by 40% over the last three years. So it's likely that the business is now reaping the full benefits of its past investments, since the capital employed hasn't changed considerably. The company is doing well in that sense, and it's worth investigating what the management team has planned for long term growth prospects.
Our Take On ESAB's ROCE
To sum it up, ESAB is collecting higher returns from the same amount of capital, and that's impressive. And a remarkable 111% total return over the last year tells us that investors are expecting more good things to come in the future. In light of that, we think it's worth looking further into this stock because if ESAB can keep these trends up, it could have a bright future ahead.
ESAB does have some risks though, and we've spotted 1 warning sign for ESAB that you might be interested in.
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.