Luceco (LON:LUCE) Might Become A Compounding Machine

There are a few key trends to look for if we want to identify the next multi-bagger. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. With that in mind, the ROCE of Luceco (LON:LUCE) looks attractive right now, so lets see what the trend of returns can tell us.

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. To calculate this metric for Luceco, this is the formula:

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

0.38 = UK£40m ÷ (UK£173m - UK£68m) (Based on the trailing twelve months to June 2021).

So, Luceco has an ROCE of 38%. In absolute terms that's a great return and it's even better than the Electrical industry average of 14%.

Check out our latest analysis for Luceco

Above you can see how the current ROCE for Luceco compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Luceco here for free.

What The Trend Of ROCE Can Tell Us

In terms of Luceco's history of ROCE, it's quite impressive. The company has employed 218% more capital in the last five years, and the returns on that capital have remained stable at 38%. With returns that high, it's great that the business can continually reinvest its money at such appealing rates of return. If Luceco can keep this up, we'd be very optimistic about its future.

On a side note, Luceco has done well to reduce current liabilities to 40% of total assets over the last five years. Effectively suppliers now fund less of the business, which can lower some elements of risk.

The Bottom Line

In short, we'd argue Luceco has the makings of a multi-bagger since its been able to compound its capital at very profitable rates of return. And the stock has done incredibly well with a 135% return over the last five years, so long term investors are no doubt ecstatic with that result. So while investors seem to be recognizing these promising trends, we still believe the stock deserves further research.

Luceco does come with some risks though, we found 4 warning signs in our investment analysis, and 1 of those is concerning...

High returns are a key ingredient to strong performance, so check out our free list ofstocks earning high returns on equity with solid balance sheets.

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.

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