There Are Reasons To Feel Uneasy About Ruth's Hospitality Group's (NASDAQ:RUTH) Returns On Capital

By
Simply Wall St
Published
January 21, 2022
NasdaqGS:RUTH
Source: Shutterstock

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Having said that, from a first glance at Ruth's Hospitality Group (NASDAQ:RUTH) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Return On Capital Employed (ROCE): What is it?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on Ruth's Hospitality Group is:

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

0.11 = US$43m ÷ (US$501m - US$107m) (Based on the trailing twelve months to September 2021).

Thus, Ruth's Hospitality Group has an ROCE of 11%. On its own, that's a standard return, however it's much better than the 9.0% generated by the Hospitality industry.

See our latest analysis for Ruth's Hospitality Group

roce
NasdaqGS:RUTH Return on Capital Employed January 21st 2022

In the above chart we have measured Ruth's Hospitality Group's 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 The Trend Of ROCE Can Tell Us

In terms of Ruth's Hospitality Group's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 46%, but since then they've fallen to 11%. 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

On a related note, Ruth's Hospitality Group has decreased its current liabilities to 21% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. 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 Key Takeaway

In summary, despite lower returns in the short term, we're encouraged to see that Ruth's Hospitality Group is reinvesting for growth and has higher sales as a result. In light of this, the stock has only gained 18% over the last five years. So this stock may still be an appealing investment opportunity, if other fundamentals prove to be sound.

If you'd like to know about the risks facing Ruth's Hospitality Group, we've discovered 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.

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