Viva Leisure (ASX:VVA) Might Be Having Difficulty Using Its Capital Effectively

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. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. However, after briefly looking over the numbers, we don't think Viva Leisure (ASX:VVA) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

What Is 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. Analysts use this formula to calculate it for Viva Leisure:

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

0.06 = AU$24m ÷ (AU$468m - AU$63m) (Based on the trailing twelve months to December 2023).

Therefore, Viva Leisure has an ROCE of 6.0%. Ultimately, that's a low return and it under-performs the Hospitality industry average of 8.2%.

View our latest analysis for Viva Leisure

Above you can see how the current ROCE for Viva Leisure compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for Viva Leisure .

So How Is Viva Leisure's ROCE Trending?

In terms of Viva Leisure's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 6.0% from 11% five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

On a side note, Viva Leisure has done well to pay down its current liabilities to 14% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

What We Can Learn From Viva Leisure's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Viva Leisure is reinvesting for growth and has higher sales as a result. However, despite the promising trends, the stock has fallen 30% over the last three years, so there might be an opportunity here for astute investors. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.

One more thing, we've spotted 1 warning sign facing Viva Leisure that you might find interesting.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.