What trends should we look for if we want to identify stocks that can multiply in value over the long term? First, we would like to identify a growth come back on capital employed (ROCE) and at the same time, a base capital employed. Ultimately, this demonstrates that this is a company that reinvests its earnings at increasing rates of return. With this in mind, we have noticed some promising trends in Magic software companies (NASDAQ: MGIC) so let’s look a little deeper.
Return on capital employed (ROCE): what is it?
If you’ve never worked with ROCE before, it measures the “yield” (pre-tax profit) a company generates from the capital used in its business. To calculate this metric for Magic Software Enterprises, here is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
0.15 = $59 million ÷ ($494 million – $107 million) (Based on the last twelve months to June 2022).
So, Magic Software Enterprises has a ROCE of 15%. In absolute terms, that’s a decent return, but compared to the software industry average of 10%, it’s much better.
Above, you can see how Magic Software Enterprises’ current ROCE compares to its past returns on capital, but there’s little you can say about the past. If you want, you can check out analyst forecasts covering Magic Software Enterprises here for free.
What does the ROCE trend tell us for Magic Software Enterprises?
The trends we’ve noticed at Magic Software Enterprises are quite reassuring. Over the past five years, return on capital employed has increased substantially to 15%. Basically, the business earns more per dollar of invested capital and on top of that, 32% more capital is also utilized now. So we’re very inspired by what we’re seeing at Magic Software Enterprises with its ability to reinvest capital profitably.
What We Can Learn From Magic Software Enterprises ROCE
A business that increases its returns on capital and can constantly reinvest in itself is a highly sought after trait, and that is what Magic Software Enterprises possesses. And a remarkable total return of 159% over the past five years tells us that investors expect more good things to come. That being said, we still think the promising fundamentals mean the company merits further due diligence.
Magic Software Enterprises poses some risks, however, and we’ve spotted 1 warning sign for Magic Software Enterprises that might interest you.
Although Magic Software Enterprises doesn’t get the highest yield, check out this free list of companies that achieve high returns on equity with strong balance sheets.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.
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