Axfood (STO:AXFO) Is Reinvesting At Lower Rates Of Return

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, from a first glance at Axfood (STO:AXFO) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

What Is 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 Axfood, this is the formula:

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

0.19 = kr3.0b ÷ (kr29b - kr13b) (Based on the trailing twelve months to December 2022).

Therefore, Axfood has an ROCE of 19%. In absolute terms, that's a satisfactory return, but compared to the Consumer Retailing industry average of 12% it's much better.

View our latest analysis for Axfood

Above you can see how the current ROCE for Axfood 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 Axfood here for free.

What Can We Tell From Axfood's ROCE Trend?

On the surface, the trend of ROCE at Axfood doesn't inspire confidence. Over the last five years, returns on capital have decreased to 19% from 33% 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, Axfood's current liabilities are still rather high at 45% of total assets. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

What We Can Learn From Axfood's ROCE

While returns have fallen for Axfood in recent times, we're encouraged to see that sales are growing and that the business is reinvesting in its operations. And the stock has followed suit returning a meaningful 90% to shareholders over the last five years. So should these growth trends continue, we'd be optimistic on the stock going forward.

One more thing to note, we've identified 1 warning sign with Axfood and understanding it should be part of your investment process.

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.