Investors Met With Slowing Returns on Capital At Tetra Tech (NASDAQ:TTEK)
If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? 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. That's why when we briefly looked at Tetra Tech's (NASDAQ:TTEK) ROCE trend, we were pretty happy with what we saw.
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 Tetra Tech is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.16 = US$434m ÷ (US$4.0b - US$1.2b) (Based on the trailing twelve months to December 2023).
Therefore, Tetra Tech has an ROCE of 16%. In absolute terms, that's a satisfactory return, but compared to the Commercial Services industry average of 10% it's much better.
Check out our latest analysis for Tetra Tech
In the above chart we have measured Tetra Tech'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 analyst report for Tetra Tech .
What Does the ROCE Trend For Tetra Tech Tell Us?
While the returns on capital are good, they haven't moved much. The company has consistently earned 16% for the last five years, and the capital employed within the business has risen 114% in that time. Since 16% 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.
In Conclusion...
The main thing to remember is that Tetra Tech has proven its ability to continually reinvest at respectable rates of return. And long term investors would be thrilled with the 213% 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.
Tetra Tech does have some risks though, and we've spotted 3 warning signs for Tetra Tech that you might be interested in.
While Tetra Tech may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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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.
