RH's (NYSE:RH) Returns Have Hit A Wall

If you're looking for a multi-bagger, there's a few things to keep an eye out for. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. That's why when we briefly looked at RH's (NYSE:RH) ROCE trend, we were pretty happy with 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. The formula for this calculation on RH is:

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

0.14 = US$619m ÷ (US$5.3b - US$852m) (Based on the trailing twelve months to April 2023).

So, RH has an ROCE of 14%. That's a relatively normal return on capital, and it's around the 13% generated by the Specialty Retail industry.

View our latest analysis for RH

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

What The Trend Of ROCE Can Tell Us

The trend of ROCE doesn't stand out much, but returns on a whole are decent. The company has employed 257% more capital in the last five years, and the returns on that capital have remained stable at 14%. Since 14% is a moderate ROCE though, it's good to see a business can continue to reinvest at these decent rates of return. Over long periods of time, returns like these might not be too exciting, but with consistency they can pay off in terms of share price returns.

One more thing to note, even though ROCE has remained relatively flat over the last five years, the reduction in current liabilities to 16% of total assets, is good to see from a business owner's perspective. This can eliminate some of the risks inherent in the operations because the business has less outstanding obligations to their suppliers and or short-term creditors than they did previously.

Our Take On RH's ROCE

The main thing to remember is that RH has proven its ability to continually reinvest at respectable rates of return. On top of that, the stock has rewarded shareholders with a remarkable 194% return to those who've held over the last five years. So while investors seem to be recognizing these promising trends, we still believe the stock deserves further research.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 3 warning signs for RH (of which 1 doesn't sit too well with us!) that you should know about.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive 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.