Costco Wholesale (NASDAQ:COST) Is Very Good At Capital Allocation

To find a multi-bagger stock, what are the underlying trends we should look for in a business? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Speaking of which, we noticed some great changes in Costco Wholesale's (NASDAQ:COST) returns on capital, so let's have a look.

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 Costco Wholesale is:

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

0.27 = US$9.5b ÷ (US$73b - US$38b) (Based on the trailing twelve months to November 2024).

Thus, Costco Wholesale has an ROCE of 27%. In absolute terms that's a great return and it's even better than the Consumer Retailing industry average of 11%.

See our latest analysis for Costco Wholesale

Above you can see how the current ROCE for Costco Wholesale 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 Costco Wholesale for free.

What Does the ROCE Trend For Costco Wholesale Tell Us?

Costco Wholesale is displaying some positive trends. Over the last five years, returns on capital employed have risen substantially to 27%. The amount of capital employed has increased too, by 39%. So we're very much inspired by what we're seeing at Costco Wholesale thanks to its ability to profitably reinvest capital.

On a separate but related note, it's important to know that Costco Wholesale has a current liabilities to total assets ratio of 52%, 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. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On Costco Wholesale's ROCE

To sum it up, Costco Wholesale has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. Since the stock has returned a staggering 233% to shareholders over the last five years, it looks like investors are recognizing these changes. Therefore, we think it would be worth your time to check if these trends are going to continue.

If you want to continue researching Costco Wholesale, you might be interested to know about the 1 warning sign that our analysis has discovered.

High returns are a key ingredient to strong performance, so check out our free list ofstocks earning high returns on equity with solid balance sheets.

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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.