If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? In a perfect world, we’d like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. In light of that, when we looked at Fox Factory Holding (NASDAQ:FOXF) and its ROCE trend, we weren’t exactly thrilled.
Understanding Return On Capital Employed (ROCE)
Just to clarify if you’re unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for Fox Factory Holding, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.11 = US$116m ÷ (US$1.3b – US$174m) (Based on the trailing twelve months to October 2020).
Thus, Fox Factory Holding has an ROCE of 11%. That’s a relatively normal return on capital, and it’s around the 10% generated by the Auto Components industry.
See our latest analysis for Fox Factory Holding
Above you can see how the current ROCE for Fox Factory Holding compares to its prior returns on capital, but there’s only so much you can tell from the past. If you’d like to see what analysts are forecasting going forward, you should check out our free report for Fox Factory Holding.
What The Trend Of ROCE Can Tell Us
Unfortunately, the trend isn’t great with ROCE falling from 19% five years ago, while capital employed has grown 405%. Usually this isn’t ideal, but given Fox Factory Holding conducted a capital raising before their most recent earnings announcement, that would’ve likely contributed, at least partially, to the increased capital employed figure. It’s unlikely that all of the funds raised have been put to work yet, so as a consequence Fox Factory Holding might not have received a full period of earnings contribution from it. It’s also worth noting the company’s latest EBIT figure is within 10% of the previous year, so it’s fair to assign the ROCE drop largely to the capital raise.
On a side note, Fox Factory Holding has done well to pay down its current liabilities to 14% of total assets. So we could link some of this to the decrease in ROCE. What’s more, this can reduce some aspects of risk to the business because now the company’s suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it’s own money, you could argue this has made the business less efficient at generating ROCE.
The Key Takeaway
While returns have fallen for Fox Factory Holding in recent times, we’re encouraged to see that sales are growing and that the business is reinvesting in its operations. And the stock has done incredibly well with a 375% return over the last five years, so long term investors are no doubt ecstatic with that result. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.
On a separate note, we’ve found 4 warning signs for Fox Factory Holding you’ll probably want to know about.
While Fox Factory Holding may not currently earn the highest returns, we’ve compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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