Yahoo Finance What Do The Returns On Capital At Roots (TSE:ROOT) Tell Us?
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. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at Roots (TSE:ROOT), it didn't seem to tick all of these boxes.
Understanding 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. To calculate this metric for Roots, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.053 = CA$18m ÷ (CA$422m - CA$73m) (Based on the trailing twelve months to October 2020).
Thus, Roots has an ROCE of 5.3%. In absolute terms, that's a low return and it also under-performs the Specialty Retail industry average of 11%.
See our latest analysis for Roots
Above you can see how the current ROCE for Roots 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 Roots.
What Can We Tell From Roots' ROCE Trend?
There hasn't been much to report for Roots' returns and its level of capital employed because both metrics have been steady for the past four years. It's not uncommon to see this when looking at a mature and stable business that isn't re-investing its earnings because it has likely passed that phase of the business cycle. So unless we see a substantial change at Roots in terms of ROCE and additional investments being made, we wouldn't hold our breath on it being a multi-bagger.
The Key Takeaway
In summary, Roots isn't compounding its earnings but is generating stable returns on the same amount of capital employed. Moreover, since the stock has crumbled 74% over the last three years, it appears investors are expecting the worst. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.
One more thing: We've identified 3 warning signs with Roots (at least 1 which doesn't sit too well with us) , and understanding these would certainly be useful.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.
This article by Simply Wall St is general in nature. 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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