Southwest Airlines (NYSE:LUV) Could Be Struggling To Allocate Capital

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Although, when we looked at Southwest Airlines (NYSE:LUV), it didn't seem to tick all of these boxes.

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 Southwest Airlines, this is the formula:

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

0.017 = US$373m ÷ (US$36b - US$14b) (Based on the trailing twelve months to June 2024).

Thus, Southwest Airlines has an ROCE of 1.7%. In absolute terms, that's a low return and it also under-performs the Airlines industry average of 8.4%.

View our latest analysis for Southwest Airlines

Above you can see how the current ROCE for Southwest Airlines 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 analyst report for Southwest Airlines .

What The Trend Of ROCE Can Tell Us

In terms of Southwest Airlines' historical ROCE movements, the trend isn't fantastic. To be more specific, ROCE has fallen from 17% over the last five years. However it looks like Southwest Airlines might be reinvesting for long term growth because while capital employed has increased, the company's sales haven't changed much in the last 12 months. It may take some time before the company starts to see any change in earnings from these investments.

What We Can Learn From Southwest Airlines' ROCE

To conclude, we've found that Southwest Airlines is reinvesting in the business, but returns have been falling. And in the last five years, the stock has given away 44% so the market doesn't look too hopeful on these trends strengthening any time soon. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.

On a final note, we found 3 warning signs for Southwest Airlines (2 are concerning) you should be aware of.

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.