The Returns On Capital At Hotel Chocolat Group (LON:HOTC) Don't Inspire Confidence

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount 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. Although, when we looked at Hotel Chocolat Group (LON:HOTC), it didn't seem to tick all of these boxes.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Hotel Chocolat Group, this is the formula:

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

0.042 = UK£4.6m ÷ (UK£177m - UK£67m) (Based on the trailing twelve months to December 2020).

Thus, Hotel Chocolat Group has an ROCE of 4.2%. Ultimately, that's a low return and it under-performs the Food industry average of 11%.

Check out our latest analysis for Hotel Chocolat Group

In the above chart we have measured Hotel Chocolat Group's 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 Hotel Chocolat Group.

How Are Returns Trending?

In terms of Hotel Chocolat Group's historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 35% over the last five years. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. 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.

On a side note, Hotel Chocolat Group has done well to pay down its current liabilities to 38% of total assets. So we could link some of this to the decrease in ROCE. 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. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Bottom Line On Hotel Chocolat Group's ROCE

In summary, Hotel Chocolat Group is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. Since the stock has gained an impressive 79% over the last five years, investors must think there's better things to come. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

Like most companies, Hotel Chocolat Group does come with some risks, and we've found 1 warning sign that you should be aware of.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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.

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