Capital Allocation Trends At Karooooo (NASDAQ:KARO) Aren't Ideal

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. So when we looked at Karooooo (NASDAQ:KARO), they do have a high ROCE, but we weren't exactly elated from how returns are trending.

What Is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Karooooo:

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

0.29 = R763m ÷ (R3.3b - R662m) (Based on the trailing twelve months to May 2022).

So, Karooooo has an ROCE of 29%. In absolute terms that's a great return and it's even better than the Software industry average of 10%.

View our latest analysis for Karooooo

Above you can see how the current ROCE for Karooooo compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Karooooo.

The Trend Of ROCE

On the surface, the trend of ROCE at Karooooo doesn't inspire confidence. To be more specific, while the ROCE is still high, it's fallen from 43% where it was three years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.

The Key Takeaway

In summary, despite lower returns in the short term, we're encouraged to see that Karooooo is reinvesting for growth and has higher sales as a result. However, despite the promising trends, the stock has fallen 22% over the last year, so there might be an opportunity here for astute investors. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.

If you want to continue researching Karooooo, you might be interested to know about the 1 warning sign that our analysis has discovered.

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.