Stock Analysis

Magazine Luiza (BVMF:MGLU3) Is Reinvesting At Lower Rates Of Return

Published
BOVESPA:MGLU3

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. In light of that, when we looked at Magazine Luiza (BVMF:MGLU3) and its ROCE trend, we weren't exactly thrilled.

Return On Capital Employed (ROCE): What Is It?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Magazine Luiza:

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

0.065 = R$1.4b ÷ (R$36b - R$14b) (Based on the trailing twelve months to September 2024).

Thus, Magazine Luiza has an ROCE of 6.5%. In absolute terms, that's a low return, but it's much better than the Multiline Retail industry average of 5.1%.

See our latest analysis for Magazine Luiza

BOVESPA:MGLU3 Return on Capital Employed January 10th 2025

In the above chart we have measured Magazine Luiza's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Magazine Luiza for free.

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Magazine Luiza, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 6.5% from 11% five years ago. However it looks like Magazine Luiza might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

Another thing to note, Magazine Luiza has a high ratio of current liabilities to total assets of 40%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On Magazine Luiza's ROCE

In summary, Magazine Luiza is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. And investors may be expecting the fundamentals to get a lot worse because the stock has crashed 95% over the last five years. 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.

On a separate note, we've found 3 warning signs for Magazine Luiza you'll probably want to know about.

While Magazine Luiza may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list 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.