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. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. Looking at Cake Box Holdings (LON:CBOX), it does have a high ROCE right now, but lets see how returns are trending.
Return On Capital Employed (ROCE): What Is It?
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 Cake Box Holdings is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.33 = UK£7.0m ÷ (UK£26m - UK£4.2m) (Based on the trailing twelve months to March 2022).
Thus, Cake Box Holdings has an ROCE of 33%. In absolute terms that's a great return and it's even better than the Consumer Retailing industry average of 10%.
In the above chart we have measured Cake Box Holdings' prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Cake Box Holdings.
What The Trend Of ROCE Can Tell Us
In terms of Cake Box Holdings' historical ROCE movements, the trend isn't fantastic. To be more specific, while the ROCE is still high, it's fallen from 46% where it was five years ago. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.
On a side note, Cake Box Holdings has done well to pay down its current liabilities to 16% 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.
The Bottom Line On Cake Box Holdings' ROCE
In summary, despite lower returns in the short term, we're encouraged to see that Cake Box Holdings is reinvesting for growth and has higher sales as a result. However, total returns to shareholders over the last three years have been flat, which could indicate these growth trends potentially aren't accounted for yet by investors. So we think it'd be worthwhile to look further into this stock given the trends look encouraging.
Cake Box Holdings does come with some risks though, we found 4 warning signs in our investment analysis, and 1 of those is significant...
Cake Box Holdings is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.
Valuation is complex, but we're helping make it simple.
Find out whether Cake Box Holdings is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.View the Free Analysis
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.