There Are Reasons To Feel Uneasy About Richelieu Hardware's (TSE:RCH) Returns On Capital

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Although, when we looked at Richelieu Hardware (TSE:RCH), it didn't seem to tick all of these boxes.

What Is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Richelieu Hardware, this is the formula:

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

0.12 = CA$138m ÷ (CA$1.4b - CA$257m) (Based on the trailing twelve months to August 2024).

Therefore, Richelieu Hardware has an ROCE of 12%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Trade Distributors industry average of 11%.

Check out our latest analysis for Richelieu Hardware

In the above chart we have measured Richelieu Hardware'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 Richelieu Hardware for free.

What Can We Tell From Richelieu Hardware's ROCE Trend?

When we looked at the ROCE trend at Richelieu Hardware, we didn't gain much confidence. To be more specific, ROCE has fallen from 18% over the last five years. However it looks like Richelieu Hardware 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.

Our Take On Richelieu Hardware's ROCE

Bringing it all together, while we're somewhat encouraged by Richelieu Hardware'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 64% over the last five years. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

If you'd like to know about the risks facing Richelieu Hardware, we've discovered 1 warning sign that you should be aware of.

While Richelieu Hardware 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.