Leon's Furniture (TSE:LNF) Is Experiencing Growth In Returns On Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So on that note, Leon's Furniture (TSE:LNF) looks quite promising in regards to its trends of return on capital.

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. Analysts use this formula to calculate it for Leon's Furniture:

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

0.20 = CA$289m ÷ (CA$2.5b - CA$1.0b) (Based on the trailing twelve months to September 2021).

Thus, Leon's Furniture has an ROCE of 20%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Specialty Retail industry average of 18%.

See our latest analysis for Leon's Furniture

Above you can see how the current ROCE for Leon's Furniture compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Leon's Furniture here for free.

What Does the ROCE Trend For Leon's Furniture Tell Us?

We like the trends that we're seeing from Leon's Furniture. Over the last five years, returns on capital employed have risen substantially to 20%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 57%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

On a separate but related note, it's important to know that Leon's Furniture has a current liabilities to total assets ratio of 41%, which we'd consider pretty high. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

The Bottom Line On Leon's Furniture's ROCE

To sum it up, Leon's Furniture has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 66% return over the last five years. Therefore, we think it would be worth your time to check if these trends are going to continue.

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

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.