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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? 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. Speaking of which, we noticed some great changes in Scales' (NZSE:SCL) returns on capital, so let's have a look.
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. The formula for this calculation on Scales is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.11 = NZ$59m ÷ (NZ$609m - NZ$96m) (Based on the trailing twelve months to December 2024).
Therefore, Scales has an ROCE of 11%. That's a relatively normal return on capital, and it's around the 9.6% generated by the Food industry.
View our latest analysis for Scales
Above you can see how the current ROCE for Scales compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Scales for free.
What The Trend Of ROCE Can Tell Us
Scales' ROCE growth is quite impressive. Looking at the data, we can see that even though capital employed in the business has remained relatively flat, the ROCE generated has risen by 47% over the last five years. So our take on this is that the business has increased efficiencies to generate these higher returns, all the while not needing to make any additional investments. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.
The Key Takeaway
To sum it up, Scales is collecting higher returns from the same amount of capital, and that's impressive. Investors may not be impressed by the favorable underlying trends yet because over the last five years the stock has only returned 27% to shareholders. Given that, we'd look further into this stock in case it has more traits that could make it multiply in the long term.