What are the early trends we should look for to identify a stock that could multiply in value over the long term? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing 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. However, after briefly looking over the numbers, we don't think Ruth's Hospitality Group (NASDAQ:RUTH) has the makings of a multi-bagger going forward, but let's have a look at why that may be.
Understanding Return On Capital Employed (ROCE)
For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for Ruth's Hospitality Group:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.0037 = US$1.7m ÷ (US$567m - US$94m) (Based on the trailing twelve months to September 2020).
Thus, Ruth's Hospitality Group has an ROCE of 0.4%. Ultimately, that's a low return and it under-performs the Hospitality industry average of 5.3%.
See our latest analysis for Ruth's Hospitality Group
Above you can see how the current ROCE for Ruth's Hospitality Group compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
What Does the ROCE Trend For Ruth's Hospitality Group Tell Us?
The trend of ROCE doesn't look fantastic because it's fallen from 34% five years ago, while the business's capital employed increased by 266%. That being said, Ruth's Hospitality Group raised some capital prior to their latest results being released, so that could partly explain the increase in capital employed. The funds raised likely haven't been put to work yet so it's worth watching what happens in the future with Ruth's Hospitality Group's earnings and if they change as a result from the capital raise.
On a related note, Ruth's Hospitality Group has decreased its current liabilities to 17% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.
What We Can Learn From Ruth's Hospitality Group's ROCE
We're a bit apprehensive about Ruth's Hospitality Group because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Investors haven't taken kindly to these developments, since the stock has declined 31% from where it was five years ago. That being the case, unless the underlying trends revert to a more positive trajectory, we'd consider looking elsewhere.
On a final note, we found 3 warning signs for Ruth's Hospitality Group (1 is significant) 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.
This article by Simply Wall St is general in nature. 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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com.