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What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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 Hill-Rom Holdings' (NYSE:HRC) ROCE trend, we were pretty happy with what we saw.
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 Hill-Rom Holdings, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.12 = US$447m ÷ (US$4.7b - US$941m) (Based on the trailing twelve months to June 2020).
So, Hill-Rom Holdings has an ROCE of 12%. In absolute terms, that's a satisfactory return, but compared to the Medical Equipment industry average of 9.0% it's much better.
Above you can see how the current ROCE for Hill-Rom Holdings 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 Hill-Rom Holdings.
What Does the ROCE Trend For Hill-Rom Holdings Tell Us?
While the current returns on capital are decent, they haven't changed much. The company has consistently earned 12% for the last five years, and the capital employed within the business has risen 169% in that time. Since 12% 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.
The Key Takeaway
The main thing to remember is that Hill-Rom Holdings has proven its ability to continually reinvest at respectable rates of return. And since the stock has risen strongly over the last five years, it appears the market might expect this trend to continue. So while the positive underlying trends may be accounted for by investors, we still think this stock is worth looking into further.
Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for Hill-Rom Holdings (of which 1 can't be ignored!) that you should know about.
While Hill-Rom Holdings 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.
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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