If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. 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 Luna Innovations (NASDAQ:LUNA) and its trend of ROCE, we really liked what we saw.
What Is Return On Capital Employed (ROCE)?
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on Luna Innovations is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.014 = US$1.7m ÷ (US$155m - US$30m) (Based on the trailing twelve months to June 2023).
Thus, Luna Innovations has an ROCE of 1.4%. Ultimately, that's a low return and it under-performs the Electronic industry average of 13%.
Check out our latest analysis for Luna Innovations
Above you can see how the current ROCE for Luna Innovations 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 Luna Innovations.
What The Trend Of ROCE Can Tell Us
The fact that Luna Innovations is now generating some pre-tax profits from its prior investments is very encouraging. Shareholders would no doubt be pleased with this because the business was loss-making five years ago but is is now generating 1.4% on its capital. In addition to that, Luna Innovations is employing 137% more capital than previously which is expected of a company that's trying to break into profitability. We like this trend, because it tells us the company has profitable reinvestment opportunities available to it, and if it continues going forward that can lead to a multi-bagger performance.
What We Can Learn From Luna Innovations' ROCE
Long story short, we're delighted to see that Luna Innovations' reinvestment activities have paid off and the company is now profitable. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 92% return over the last five years. In light of that, we think it's worth looking further into this stock because if Luna Innovations can keep these trends up, it could have a bright future ahead.
If you want to continue researching Luna Innovations, you might be interested to know about the 2 warning signs that our analysis has discovered.
For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high 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.