Arhaus (NASDAQ:ARHS) Will Be Hoping To Turn Its Returns On Capital Around

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. So while Arhaus (NASDAQ:ARHS) has a high ROCE right now, lets see what we can decipher from how returns are changing.

What Is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Arhaus, this is the formula:

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

0.20 = US$97m ÷ (US$907m - US$424m) (Based on the trailing twelve months to September 2022).

Thus, Arhaus has an ROCE of 20%. In absolute terms that's a very respectable return and compared to the Specialty Retail industry average of 17% it's pretty much on par.

View our latest analysis for Arhaus

In the above chart we have measured Arhaus' 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 Arhaus.

What Can We Tell From Arhaus' ROCE Trend?

On the surface, the trend of ROCE at Arhaus doesn't inspire confidence. While it's comforting that the ROCE is high, two years ago it was 26%. 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 related note, Arhaus has decreased its current liabilities to 47% 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. Keep in mind 47% is still pretty high, so those risks are still somewhat prevalent.

The Bottom Line

While returns have fallen for Arhaus 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 72% to shareholders over the last year. So while the underlying trends could already be accounted for by investors, we still think this stock is worth looking into further.

One more thing, we've spotted 1 warning sign facing Arhaus that you might find interesting.

If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets here.

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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.