Will Woolworths Group (ASX:WOW) Multiply In Value Going Forward?

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. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. Having said that, from a first glance at Woolworths Group (ASX:WOW) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. To calculate this metric for Woolworths Group, this is the formula:

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

0.13 = AU$3.2b ÷ (AU$38b - AU$13b) (Based on the trailing twelve months to June 2020).

Thus, Woolworths Group has an ROCE of 13%. In absolute terms, that's a satisfactory return, but compared to the Consumer Retailing industry average of 9.5% it's much better.

See our latest analysis for Woolworths Group

In the above chart we have measured Woolworths Group's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Woolworths Group.

So How Is Woolworths Group's ROCE Trending?

On the surface, the trend of ROCE at Woolworths Group doesn't inspire confidence. To be more specific, ROCE has fallen from 25% over the last five years. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.

Our Take On Woolworths Group's ROCE

To conclude, we've found that Woolworths Group is reinvesting in the business, but returns have been falling. Although the market must be expecting these trends to improve because the stock has gained 74% over the last five years. But if the trajectory of these underlying trends continue, we think the likelihood of it being a multi-bagger from here isn't high.

One more thing, we've spotted 3 warning signs facing Woolworths Group that you might find interesting.

While Woolworths Group isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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