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There are a few key trends to look for if we want to identify the next multi-bagger. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. And in light of that, the trends we're seeing at Ferrexpo's (LON:FXPO) look very promising so lets take a look.
Understanding 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. The formula for this calculation on Ferrexpo is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.29 = US$457m ÷ (US$1.8b - US$267m) (Based on the trailing twelve months to June 2020).
Thus, Ferrexpo has an ROCE of 29%. In absolute terms that's a great return and it's even better than the Metals and Mining industry average of 11%.
Above you can see how the current ROCE for Ferrexpo 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?
We like the trends that we're seeing from Ferrexpo. Over the last five years, returns on capital employed have risen substantially to 29%. Basically the business is earning more per dollar of capital invested and in addition to that, 44% more capital is being employed now too. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.
On a related note, the company's ratio of current liabilities to total assets has decreased to 15%, which basically reduces it's funding from the likes of short-term creditors or suppliers. So this improvement in ROCE has come from the business' underlying economics, which is great to see.
What We Can Learn From Ferrexpo's ROCE
In summary, it's great to see that Ferrexpo can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. And with the stock having performed exceptionally well over the last five years, these trends are being accounted for by investors. In light of that, we think it's worth looking further into this stock because if Ferrexpo can keep these trends up, it could have a bright future ahead.
One more thing: We've identified 2 warning signs with Ferrexpo (at least 1 which is potentially serious) , and understanding them would certainly be useful.
Ferrexpo is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.
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.
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