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What trends should we look for it we want to identify stocks that can multiply in value over the long term? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Although, when we looked at PACCAR (NASDAQ:PCAR), it didn't seem to tick all of these boxes.
Return On Capital Employed (ROCE): What is it?
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for PACCAR, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.079 = US$1.6b ÷ (US$28b - US$7.9b) (Based on the trailing twelve months to December 2020).
Thus, PACCAR has an ROCE of 7.9%. On its own, that's a low figure but it's around the 9.5% average generated by the Machinery industry.
Above you can see how the current ROCE for PACCAR compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for PACCAR.
So How Is PACCAR's ROCE Trending?
In terms of PACCAR's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 15% over the last five years. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.
Our Take On PACCAR's ROCE
From the above analysis, we find it rather worrisome that returns on capital and sales for PACCAR have fallen, meanwhile the business is employing more capital than it was five years ago. Since the stock has skyrocketed 104% over the last five years, it looks like investors have high expectations of the stock. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.
On a final note, we've found 3 warning signs for PACCAR that we think you should be aware of.
While PACCAR isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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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