AutoZone (NYSE:AZO) Knows How To Allocate Capital

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. So, when we ran our eye over AutoZone's (NYSE:AZO) trend of ROCE, we really liked what we saw.

What Is Return On Capital Employed (ROCE)?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for AutoZone, this is the formula:

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

0.46 = US$3.5b ÷ (US$16b - US$8.5b) (Based on the trailing twelve months to August 2023).

So, AutoZone has an ROCE of 46%. That's a fantastic return and not only that, it outpaces the average of 12% earned by companies in a similar industry.

View our latest analysis for AutoZone

In the above chart we have measured AutoZone'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.

How Are Returns Trending?

AutoZone deserves to be commended in regards to it's returns. The company has employed 73% more capital in the last five years, and the returns on that capital have remained stable at 46%. With returns that high, it's great that the business can continually reinvest its money at such appealing rates of return. If these trends can continue, it wouldn't surprise us if the company became a multi-bagger.

On a side note, AutoZone's current liabilities are still rather high at 53% of total assets. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Key Takeaway

In summary, we're delighted to see that AutoZone has been compounding returns by reinvesting at consistently high rates of return, as these are common traits of a multi-bagger. And long term investors would be thrilled with the 231% return they've received over the last five years. So while investors seem to be recognizing these promising trends, we still believe the stock deserves further research.

If you want to know some of the risks facing AutoZone we've found 2 warning signs (1 shouldn't be ignored!) that you should be aware of before investing here.

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.