These Return Metrics Don't Make Roots (TSE:ROOT) Look Too Strong

If we're looking to avoid a business that is in decline, what are the trends that can warn us ahead of time? A business that's potentially in decline often shows two trends, a return on capital employed (ROCE) that's declining, and a base of capital employed that's also declining. This combination can tell you that not only is the company investing less, it's earning less on what it does invest. So after glancing at the trends within Roots (TSE:ROOT), we weren't too hopeful.

Understanding Return On Capital Employed (ROCE)

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. The formula for this calculation on Roots is:

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

0.039 = CA$12m ÷ (CA$363m - CA$64m) (Based on the trailing twelve months to July 2023).

So, Roots has an ROCE of 3.9%. Ultimately, that's a low return and it under-performs the Specialty Retail industry average of 14%.

Check out our latest analysis for Roots

In the above chart we have measured Roots' prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

What Can We Tell From Roots' ROCE Trend?

There is reason to be cautious about Roots, given the returns are trending downwards. To be more specific, the ROCE was 11% five years ago, but since then it has dropped noticeably. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Roots becoming one if things continue as they have.

The Key Takeaway

In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. Investors haven't taken kindly to these developments, since the stock has declined 59% from where it was five years ago. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

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

While Roots 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.