What are the early trends we should look for to identify a stock that could multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So when we looked at STS Group (ETR:SF3) and its trend of ROCE, we really liked what we saw.

Return On Capital Employed (ROCE): What Is It?

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 STS Group:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.047 = €6.5m ÷ (€267m - €129m) (Based on the trailing twelve months to December 2023).

Therefore, STS Group has an ROCE of 4.7%. Ultimately, that's a low return and it under-performs the Machinery industry average of 11%.

Check out our latest analysis for STS Group

In the above chart we have measured STS Group'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 STS Group for free.

What Can We Tell From STS Group's ROCE Trend?

While there are companies with higher returns on capital out there, we still find the trend at STS Group promising. More specifically, while the company has kept capital employed relatively flat over the last five years, the ROCE has climbed 70% in that same time. So our take on this is that the business has increased efficiencies to generate these higher returns, all the while not needing to make any additional investments. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.

On a separate but related note, it's important to know that STS Group has a current liabilities to total assets ratio of 49%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On STS Group's ROCE

As discussed above, STS Group appears to be getting more proficient at generating returns since capital employed has remained flat but earnings (before interest and tax) are up. Given the stock has declined 15% in the last five years, this could be a good investment if the valuation and other metrics are also appealing. So researching this company further and determining whether or not these trends will continue seems justified.