What are the early trends we should look for to identify a stock that could 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Speaking of which, we noticed some great changes in A. O. Smith's (NYSE:AOS) returns on capital, so let's have a look.

Return On Capital Employed (ROCE): What Is It?

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. To calculate this metric for A. O. Smith, this is the formula:

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

0.32 = US$729m ÷ (US$3.2b - US$844m) (Based on the trailing twelve months to September 2024).

Therefore, A. O. Smith has an ROCE of 32%. In absolute terms that's a great return and it's even better than the Building industry average of 15%.

See our latest analysis for A. O. Smith

Above you can see how the current ROCE for A. O. Smith 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 A. O. Smith for free.

How Are Returns Trending?

A. O. Smith has not disappointed with their ROCE growth. The figures show that over the last five years, ROCE has grown 48% whilst employing roughly the same amount of capital. So our take on this is that the business has increased efficiencies to generate these higher returns, all the while not needing to make any additional investments. On that front, things are looking good so it's worth exploring what management has said about growth plans going forward.

In Conclusion...

To bring it all together, A. O. Smith has done well to increase the returns it's generating from its capital employed. And with a respectable 67% 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. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

While A. O. Smith looks impressive, no company is worth an infinite price. The intrinsic value infographic for AOS helps visualize whether it is currently trading for a fair price.

If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets here.

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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.