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If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? 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. With that in mind, the ROCE of Simpson Manufacturing (NYSE:SSD) looks great, so lets see what the trend can tell us.
Return On Capital Employed (ROCE): What is it?
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for Simpson Manufacturing:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.24 = US$252m ÷ (US$1.2b - US$194m) (Based on the trailing twelve months to December 2020).
So, Simpson Manufacturing has an ROCE of 24%. In absolute terms that's a great return and it's even better than the Building industry average of 14%.
Above you can see how the current ROCE for Simpson Manufacturing 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 Simpson Manufacturing.
What The Trend Of ROCE Can Tell Us
Simpson Manufacturing's ROCE growth is quite impressive. More specifically, while the company has kept capital employed relatively flat over the last five years, the ROCE has climbed 88% in that same time. Basically the business is generating higher returns from the same amount of capital and that is proof that there are improvements in the company's efficiencies. On that front, things are looking good so it's worth exploring what management has said about growth plans going forward.
What We Can Learn From Simpson Manufacturing's ROCE
In summary, we're delighted to see that Simpson Manufacturing has been able to increase efficiencies and earn higher rates of return on the same amount of capital. Since the stock has returned a staggering 190% to shareholders over the last five years, it looks like investors are recognizing these changes. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.
On a final note, we've found 1 warning sign for Simpson Manufacturing that we think you should be aware of.
If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets 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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