Returns On Capital Are Showing Encouraging Signs At GrowGeneration (NASDAQ:GRWG)

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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. With that in mind, we've noticed some promising trends at GrowGeneration (NASDAQ:GRWG) so let's look a bit deeper.

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. Analysts use this formula to calculate it for GrowGeneration:

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

0.051 = US$19m ÷ (US$408m - US$46m) (Based on the trailing twelve months to March 2021).

Thus, GrowGeneration has an ROCE of 5.1%. Ultimately, that's a low return and it under-performs the Specialty Retail industry average of 18%.

Check out our latest analysis for GrowGeneration

In the above chart we have measured GrowGeneration'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

The fact that GrowGeneration is now generating some pre-tax profits from its prior investments is very encouraging. About five years ago the company was generating losses but things have turned around because it's now earning 5.1% on its capital. And unsurprisingly, like most companies trying to break into the black, GrowGeneration is utilizing 14,227% more capital than it was five years ago. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.

One more thing to note, GrowGeneration has decreased current liabilities to 11% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. So this improvement in ROCE has come from the business' underlying economics, which is great to see.

In Conclusion...

To the delight of most shareholders, GrowGeneration has now broken into profitability. And with the stock having performed exceptionally well over the last three years, these patterns are being accounted for by investors. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.

On a final note, we've found 2 warning signs for GrowGeneration that we think 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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