Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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 on that note, Duxton Water (ASX:D2O) looks quite promising in regards to its trends of return on capital.

What Is 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. Analysts use this formula to calculate it for Duxton Water:

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

0.044 = AU$12m ÷ (AU$273m - AU$9.9m) (Based on the trailing twelve months to June 2022).

Therefore, Duxton Water has an ROCE of 4.4%. In absolute terms, that's a low return and it also under-performs the Water Utilities industry average of 6.1%.

View our latest analysis for Duxton Water

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 want to delve into the historical earnings, revenue and cash flow of Duxton Water, check out these free graphs here.

The Trend Of ROCE

Even though ROCE is still low in absolute terms, it's good to see it's heading in the right direction. Over the last five years, returns on capital employed have risen substantially to 4.4%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 255%. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.

Our Take On Duxton Water's ROCE

To sum it up, Duxton Water has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And with a respectable 88% awarded to those who held the stock over the last five years, you could argue that these developments are starting to get the attention they deserve. Therefore, we think it would be worth your time to check if these trends are going to continue.

Duxton Water does have some risks, we noticed 2 warning signs (and 1 which shouldn't be ignored) we think you should know about.

While Duxton Water 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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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