Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. So on that note, Smart Parking (ASX:SPZ) looks quite promising in regards to its trends of return on capital.
What is 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 Smart Parking is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.058 = AU$2.0m ÷ (AU$46m - AU$11m) (Based on the trailing twelve months to December 2021).
Thus, Smart Parking has an ROCE of 5.8%. Ultimately, that's a low return and it under-performs the Electronic industry average of 10%.
Historical performance is a great place to start when researching a stock so above you can see the gauge for Smart Parking's ROCE against it's prior returns. If you're interested in investigating Smart Parking's past further, check out this free graph of past earnings, revenue and cash flow.
What Can We Tell From Smart Parking's ROCE Trend?
While in absolute terms it isn't a high ROCE, it's promising to see that it has been moving in the right direction. The data shows that returns on capital have increased substantially over the last five years to 5.8%. The amount of capital employed has increased too, by 44%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.
In summary, it's great to see that Smart Parking can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. Astute investors may have an opportunity here because the stock has declined 23% in the last five years. So researching this company further and determining whether or not these trends will continue seems justified.
Smart Parking does have some risks though, and we've spotted 2 warning signs for Smart Parking that you might be interested in.
While Smart Parking isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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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.