Some Investors May Be Worried About Karooooo's (NASDAQ:KARO) Returns On Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding 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. So while Karooooo (NASDAQ:KARO) has a high ROCE right now, lets see what we can decipher from how returns are changing.

Return On Capital Employed (ROCE): What Is It?

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

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

0.32 = R884m ÷ (R4.2b - R1.4b) (Based on the trailing twelve months to May 2023).

So, Karooooo has an ROCE of 32%. That's a fantastic return and not only that, it outpaces the average of 9.2% earned by companies in a similar industry.

Check out our latest analysis for Karooooo

In the above chart we have measured Karooooo's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Karooooo here for free.

How Are Returns Trending?

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 four 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. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.

In Conclusion...

Even though returns on capital have fallen in the short term, we find it promising that revenue and capital employed have both increased for Karooooo. These trends are starting to be recognized by investors since the stock has delivered a 1.6% gain to shareholders who've held over the last year. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

One more thing, we've spotted 1 warning sign facing Karooooo that you might find interesting.

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.