Returns On Capital Signal Tricky Times Ahead For Northland Power (TSE:NPI)
What trends should we look for it we want to identify stocks that can multiply in value over the long term? 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. 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 Northland Power (TSE:NPI), it didn't seem to tick all of these boxes.
What Is 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. To calculate this metric for Northland Power, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.06 = CA$781m ÷ (CA$15b - CA$1.6b) (Based on the trailing twelve months to September 2023).
Therefore, Northland Power has an ROCE of 6.0%. Even though it's in line with the industry average of 5.6%, it's still a low return by itself.
View our latest analysis for Northland Power
In the above chart we have measured Northland Power'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 report for Northland Power.
What Does the ROCE Trend For Northland Power Tell Us?
Unfortunately, the trend isn't great with ROCE falling from 7.9% five years ago, while capital employed has grown 40%. That being said, Northland Power raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. Northland Power probably hasn't received a full year of earnings yet from the new funds it raised, so these figures should be taken with a grain of salt.
In Conclusion...
To conclude, we've found that Northland Power is reinvesting in the business, but returns have been falling. And investors may be recognizing these trends since the stock has only returned a total of 18% to shareholders over the last five years. As a result, if you're hunting for a multi-bagger, we think you'd have more luck elsewhere.
On a final note, we found 3 warning signs for Northland Power (1 is a bit unpleasant) you should be aware of.
For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.
