Coles Group (ASX:COL) Will Be Hoping To Turn Its Returns On Capital Around

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's 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. However, after briefly looking over the numbers, we don't think Coles Group (ASX:COL) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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. The formula for this calculation on Coles Group is:

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

0.14 = AU$1.7b ÷ (AU$18b - AU$6.4b) (Based on the trailing twelve months to June 2023).

So, Coles Group has an ROCE of 14%. By itself that's a normal return on capital and it's in line with the industry's average returns of 14%.

See our latest analysis for Coles Group

Above you can see how the current ROCE for Coles Group 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 Coles Group.

How Are Returns Trending?

In terms of Coles Group's historical ROCE movements, the trend isn't fantastic. Over the last four years, returns on capital have decreased to 14% from 22% four years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

Our Take On Coles Group's ROCE

Bringing it all together, while we're somewhat encouraged by Coles Group's reinvestment in its own business, we're aware that returns are shrinking. Although the market must be expecting these trends to improve because the stock has gained 66% over the last five years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

If you want to continue researching Coles Group, you might be interested to know about the 1 warning sign that our analysis has discovered.

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.

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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.