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Did you know there are some financial metrics that can provide clues of a potential multi-bagger? 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. 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 Iofina's (LON:IOF) returns on capital, so let's have a look.
Return On Capital Employed (ROCE): What is it?
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Iofina, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.14 = US$2.8m ÷ (US$44m - US$24m) (Based on the trailing twelve months to December 2019).
So, Iofina has an ROCE of 14%. On its own, that's a standard return, however it's much better than the 9.6% generated by the Chemicals industry.
In the above chart we have measured Iofina's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
How Are Returns Trending?
It's great to see that Iofina has started to generate some pre-tax earnings from prior investments. Historically the company was generating losses but as we can see from the latest figures referenced above, they're now earning 14% on their capital employed. Additionally, the business is utilizing 55% less capital than it was five years ago, and taken at face value, that can mean the company needs less funds at work to get a return. The reduction could indicate that the company is selling some assets, and considering returns are up, they appear to be selling the right ones.
For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. The current liabilities has increased to 56% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. And with current liabilities at those levels, that's pretty high.
The Bottom Line On Iofina's ROCE
In the end, Iofina has proven it's capital allocation skills are good with those higher returns from less amount of capital. And since the stock has fallen 26% over the last five years, there might be an opportunity here. That being the case, research into the company's current valuation metrics and future prospects seems fitting.
Iofina does come with some risks though, we found 3 warning signs in our investment analysis, and 1 of those is concerning...
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. 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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