What trends should we look for it we want to identify stocks that can multiply in value over the long term? 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. So when we looked at Louisiana-Pacific (NYSE:LPX) and its trend of ROCE, we really liked what we saw.
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 Louisiana-Pacific, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.087 = US$138m ÷ (US$1.8b - US$219m) (Based on the trailing twelve months to June 2020).
So, Louisiana-Pacific has an ROCE of 8.7%. In absolute terms, that's a low return, but it's much better than the Forestry industry average of 6.7%.
Above you can see how the current ROCE for Louisiana-Pacific 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 Louisiana-Pacific here for free.
The Trend Of ROCE
We're delighted to see that Louisiana-Pacific is reaping rewards from its investments and has now broken into profitability. While the business is profitable now, it used to be incurring losses on invested capital five years ago. At first glance, it seems the business is getting more proficient at generating returns, because over the same period, the amount of capital employed has reduced by 24%. Louisiana-Pacific could be selling under-performing assets since the ROCE is improving.
The Bottom Line On Louisiana-Pacific's ROCE
In the end, Louisiana-Pacific has proven it's capital allocation skills are good with those higher returns from less amount of capital. Since the stock has returned a staggering 130% to shareholders over the last five years, it looks like investors are recognizing these changes. In light of that, we think it's worth looking further into this stock because if Louisiana-Pacific can keep these trends up, it could have a bright future ahead.
Like most companies, Louisiana-Pacific does come with some risks, and we've found 4 warning signs that you should be aware of.
While Louisiana-Pacific 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.
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email email@example.com.