Colgate-Palmolive's (NYSE:CL) Returns On Capital Not Reflecting Well On The Business

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. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. Looking at Colgate-Palmolive (NYSE:CL), it does have a high ROCE right now, but lets see how returns are trending.

Return On Capital Employed (ROCE): What Is It?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for Colgate-Palmolive:

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

0.32 = US$3.6b ÷ (US$16b - US$4.4b) (Based on the trailing twelve months to June 2022).

Therefore, Colgate-Palmolive has an ROCE of 32%. That's a fantastic return and not only that, it outpaces the average of 14% earned by companies in a similar industry.

See our latest analysis for Colgate-Palmolive

In the above chart we have measured Colgate-Palmolive'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 Colgate-Palmolive.

So How Is Colgate-Palmolive's ROCE Trending?

On the surface, the trend of ROCE at Colgate-Palmolive doesn't inspire confidence. While it's comforting that the ROCE is high, five years ago it was 45%. However it looks like Colgate-Palmolive might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.

The Bottom Line

To conclude, we've found that Colgate-Palmolive is reinvesting in the business, but returns have been falling. Unsurprisingly, the stock has only gained 16% over the last five years, which potentially indicates that investors are accounting for this going forward. So if you're looking for a multi-bagger, the underlying trends indicate you may have better chances elsewhere.

One more thing to note, we've identified 2 warning signs with Colgate-Palmolive and understanding these should be part of your investment process.

If you want to search for more stocks that have been earning high returns, check out this free list of stocks with solid balance sheets that are also earning high 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.