What trends should we look for it we want to identify stocks that can multiply in value over the long term? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. With that in mind, we've noticed some promising trends at Mount Gibson Iron (ASX:MGX) so let's look a bit deeper.
Understanding 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. The formula for this calculation on Mount Gibson Iron is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.13 = AU$101m ÷ (AU$898m – AU$123m) (Based on the trailing twelve months to June 2021).
So, Mount Gibson Iron has an ROCE of 13%. In absolute terms, that's a satisfactory return, but compared to the Metals and Mining industry average of 8.8% it's much better.
In the above chart we have measured Mount Gibson Iron's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Mount Gibson Iron here for free.
What Does the ROCE Trend For Mount Gibson Iron Tell Us?
Mount Gibson Iron has recently broken into profitability so their prior investments seem to be paying off. The company was generating losses five years ago, but now it's earning 13% which is a sight for sore eyes. Not only that, but the company is utilizing 80% more capital than before, but that's to be expected from a company trying to break into profitability. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.
The Bottom Line
Long story short, we're delighted to see that Mount Gibson Iron's reinvestment activities have paid off and the company is now profitable. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 84% return over the last five years. Therefore, we think it would be worth your time to check if these trends are going to continue.
On a final note, we found 4 warning signs for Mount Gibson Iron (1 makes us a bit uncomfortable) you should be aware of.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.
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.
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