If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. So when we looked at Trex Company (NYSE:TREX), they do have a high ROCE, but we weren't exactly elated from how returns are trending.

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 Trex Company is:

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

0.34 = US$278m ÷ (US$997m - US$182m) (Based on the trailing twelve months to September 2023).

Therefore, Trex Company has an ROCE of 34%. That's a fantastic return and not only that, it outpaces the average of 16% earned by companies in a similar industry.

View our latest analysis for Trex Company

Above you can see how the current ROCE for Trex Company 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 Trex Company.

What Does the ROCE Trend For Trex Company Tell Us?

When we looked at the ROCE trend at Trex Company, we didn't gain much confidence. While it's comforting that the ROCE is high, five years ago it was 47%. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

The Bottom Line On Trex Company's ROCE

In summary, we're somewhat concerned by Trex Company's diminishing returns on increasing amounts of capital. Yet despite these poor fundamentals, the stock has gained a huge 148% over the last five years, so investors appear very optimistic. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

Trex Company could be trading at an attractive price in other respects, so you might find our free intrinsic value estimation on our platform quite valuable.

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.