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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'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Speaking of which, we noticed some great changes in Synlait Milk's (NZSE:SML) returns on capital, so let's have a look.
Understanding Return On Capital Employed (ROCE)
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 Synlait Milk, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.14 = NZ$115m ÷ (NZ$1.4b - NZ$547m) (Based on the trailing twelve months to January 2020).
Therefore, Synlait Milk has an ROCE of 14%. On its own, that's a standard return, however it's much better than the 7.5% generated by the Food industry.
Above you can see how the current ROCE for Synlait Milk 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.
So How Is Synlait Milk's ROCE Trending?
Investors would be pleased with what's happening at Synlait Milk. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 14%. Basically the business is earning more per dollar of capital invested and in addition to that, 182% more capital is being employed now too. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.
Our Take On Synlait Milk's ROCE
To sum it up, Synlait Milk has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And a remarkable 193% total return over the last five years tells us that investors are expecting more good things to come in the future. Therefore, we think it would be worth your time to check if these trends are going to continue.
If you'd like to know more about Synlait Milk, we've spotted 2 warning signs, and 1 of them can't be ignored.
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.
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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