If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. With that in mind, the ROCE of Lynas Rare Earths (ASX:LYC) looks great, so lets see what the trend can tell us.
Understanding Return On Capital Employed (ROCE)
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. The formula for this calculation on Lynas Rare Earths is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.27 = AU$525m ÷ (AU$2.1b - AU$124m) (Based on the trailing twelve months to June 2022).
Therefore, Lynas Rare Earths has an ROCE of 27%. In absolute terms that's a great return and it's even better than the Metals and Mining industry average of 8.0%.
Above you can see how the current ROCE for Lynas Rare Earths 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 Lynas Rare Earths here for free.
The Trend Of ROCE
The fact that Lynas Rare Earths is now generating some pre-tax profits from its prior investments is very encouraging. The company was generating losses five years ago, but now it's earning 27% which is a sight for sore eyes. In addition to that, Lynas Rare Earths is employing 199% more capital than previously which is expected of a company that's trying to break into profitability. This can tell us that the company has plenty of reinvestment opportunities that are able to generate higher returns.
Long story short, we're delighted to see that Lynas Rare Earths' reinvestment activities have paid off and the company is now profitable. And with the stock having performed exceptionally well over the last five years, these patterns are being accounted for by investors. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.
If you want to continue researching Lynas Rare Earths, you might be interested to know about the 1 warning sign that our analysis has discovered.
Lynas Rare Earths is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.
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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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