Five Below (NASDAQ:FIVE) May Have Issues Allocating Its Capital

There are a few key trends to look for if we want to identify the next multi-bagger. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. However, after investigating Five Below (NASDAQ:FIVE), we don't think it's current trends fit the mold of a multi-bagger.

Understanding 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. The formula for this calculation on Five Below is:

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

0.12 = US$343m ÷ (US$3.7b - US$758m) (Based on the trailing twelve months to October 2023).

So, Five Below has an ROCE of 12%. That's a pretty standard return and it's in line with the industry average of 12%.

Check out our latest analysis for Five Below

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

What The Trend Of ROCE Can Tell Us

In terms of Five Below's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 12% from 29% 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.

What We Can Learn From Five Below's ROCE

In summary, despite lower returns in the short term, we're encouraged to see that Five Below is reinvesting for growth and has higher sales as a result. And the stock has followed suit returning a meaningful 56% to shareholders over the last five years. So while investors seem to be recognizing these promising trends, we would look further into this stock to make sure the other metrics justify the positive view.

If you're still interested in Five Below it's worth checking out our FREE intrinsic value approximation to see if it's trading at an attractive price in other respects.

While Five Below isn't earning the highest return, check out this free list of companies that are 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.