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When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that's often how a mature business shows signs of aging. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. And from a first read, things don't look too good at Hooker Furnishings (NASDAQ:HOFT), so let's see why.
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. To calculate this metric for Hooker Furnishings, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.034 = US$10m ÷ (US$350m - US$39m) (Based on the trailing twelve months to July 2023).
So, Hooker Furnishings has an ROCE of 3.4%. In absolute terms, that's a low return and it also under-performs the Consumer Durables industry average of 15%.
View our latest analysis for Hooker Furnishings
Above you can see how the current ROCE for Hooker Furnishings 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 Hooker Furnishings here for free.
What Can We Tell From Hooker Furnishings' ROCE Trend?
In terms of Hooker Furnishings' historical ROCE movements, the trend doesn't inspire confidence. Unfortunately the returns on capital have diminished from the 17% that they were earning five years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Hooker Furnishings becoming one if things continue as they have.
The Key Takeaway
In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. It should come as no surprise then that the stock has fallen 32% over the last five years, so it looks like investors are recognizing these changes. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.