What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. Having said that, from a first glance at Kip McGrath Education Centres (ASX:KME) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Understanding 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. The formula for this calculation on Kip McGrath Education Centres is:

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

0.069 = AU$1.9m ÷ (AU$35m - AU$7.9m) (Based on the trailing twelve months to June 2024).

Therefore, Kip McGrath Education Centres has an ROCE of 6.9%. On its own, that's a low figure but it's around the 8.1% average generated by the Consumer Services industry.

See our latest analysis for Kip McGrath Education Centres

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Kip McGrath Education Centres' past further, check out this free graph covering Kip McGrath Education Centres' past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Kip McGrath Education Centres, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 6.9% from 26% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a side note, Kip McGrath Education Centres has done well to pay down its current liabilities to 23% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

The Bottom Line On Kip McGrath Education Centres' ROCE

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Kip McGrath Education Centres. However, despite the promising trends, the stock has fallen 68% over the last five years, so there might be an opportunity here for astute investors. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

If you'd like to know more about Kip McGrath Education Centres, we've spotted 3 warning signs, and 1 of them is significant.

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.

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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.