If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. So, when we ran our eye over Southern Copper's (NYSE:SCCO) trend of ROCE, we liked what we saw.
What is Return On Capital Employed (ROCE)?
If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Southern Copper:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.16 = US$2.5b ÷ (US$16b - US$892m) (Based on the trailing twelve months to June 2020).
Therefore, Southern Copper has an ROCE of 16%. In absolute terms, that's a satisfactory return, but compared to the Metals and Mining industry average of 8.0% it's much better.
In the above chart we have measured Southern Copper'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 Southern Copper here for free.
So How Is Southern Copper's ROCE Trending?
The trend of ROCE doesn't stand out much, but returns on a whole are decent. Over the past five years, ROCE has remained relatively flat at around 16% and the business has deployed 21% more capital into its operations. Since 16% is a moderate ROCE though, it's good to see a business can continue to reinvest at these decent rates of return. Over long periods of time, returns like these might not be too exciting, but with consistency they can pay off in terms of share price returns.
The Bottom Line
In the end, Southern Copper has proven its ability to adequately reinvest capital at good rates of return. And since the stock has risen strongly over the last five years, it appears the market might expect this trend to continue. So even though the stock might be more "expensive" than it was before, we think the strong fundamentals warrant this stock for further research.
On a separate note, we've found 3 warning signs for Southern Copper you'll probably want to know about.
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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