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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? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. Although, when we looked at Austco Healthcare (ASX:AHC), it didn't seem to tick all of these boxes.
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. Analysts use this formula to calculate it for Austco Healthcare:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.087 = AU$2.2m ÷ (AU$38m - AU$13m) (Based on the trailing twelve months to June 2023).
So, Austco Healthcare has an ROCE of 8.7%. In absolute terms, that's a low return but it's around the Medical Equipment industry average of 9.5%.
View our latest analysis for Austco Healthcare
Historical performance is a great place to start when researching a stock so above you can see the gauge for Austco Healthcare's ROCE against it's prior returns. If you're interested in investigating Austco Healthcare's past further, check out this free graph of past earnings, revenue and cash flow.
So How Is Austco Healthcare's ROCE Trending?
On the surface, the trend of ROCE at Austco Healthcare doesn't inspire confidence. To be more specific, ROCE has fallen from 14% over the last five years. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.
Our Take On Austco Healthcare's ROCE
In summary, despite lower returns in the short term, we're encouraged to see that Austco Healthcare is reinvesting for growth and has higher sales as a result. And long term investors must be optimistic going forward because the stock has returned a huge 190% to shareholders in the last five years. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.
One more thing to note, we've identified 1 warning sign with Austco Healthcare and understanding it should be part of your investment process.