Lithia Motors (NYSE:LAD) Has More To Do To Multiply In Value Going Forward
What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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 Lithia Motors' (NYSE:LAD) ROCE trend, we were pretty happy with 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. Analysts use this formula to calculate it for Lithia Motors:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.15 = US$1.8b ÷ (US$16b - US$3.9b) (Based on the trailing twelve months to March 2023).
So, Lithia Motors has an ROCE of 15%. That's a relatively normal return on capital, and it's around the 14% generated by the Specialty Retail industry.
See our latest analysis for Lithia Motors
Above you can see how the current ROCE for Lithia Motors 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.
The Trend Of ROCE
While the returns on capital are good, they haven't moved much. Over the past five years, ROCE has remained relatively flat at around 15% and the business has deployed 383% more capital into its operations. 15% is a pretty standard return, and it provides some comfort knowing that Lithia Motors has consistently earned this amount. Stable returns in this ballpark can be unexciting, but if they can be maintained over the long run, they often provide nice rewards to shareholders.
One more thing to note, even though ROCE has remained relatively flat over the last five years, the reduction in current liabilities to 24% of total assets, is good to see from a business owner's perspective. This can eliminate some of the risks inherent in the operations because the business has less outstanding obligations to their suppliers and or short-term creditors than they did previously.
The Bottom Line
To sum it up, Lithia Motors has simply been reinvesting capital steadily, at those decent rates of return. And the stock has done incredibly well with a 225% return over the last five years, so long term investors are no doubt ecstatic with that result. So while the positive underlying trends may be accounted for by investors, we still think this stock is worth looking into further.
On a separate note, we've found 1 warning sign for Lithia Motors you'll probably want to know about.
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
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