Foot Locker’s (NYSE: FL) Return on capital does not reflect activity well

Finding a business that has the potential to grow significantly isn’t easy, but it is possible if we take a look at a few key financial metrics. First, we would like to identify a growth to recover on capital employed (ROCE) and at the same time, a based capital employed. This shows us that it is a composing machine, capable of continually reinvesting its profits in the business and generating higher returns. However, after briefly reviewing the numbers, we don’t think Walk-in locker (NYSE: FL) has the makings of a multi-bagger in the future, but let’s see why it may be.

Understanding Return on Capital Employed (ROCE)

For those who don’t know what ROCE is, it measures the amount of pre-tax profit a business can generate from the capital employed in its business. The formula for this calculation on Foot Locker is:

Return on capital employed = Profit before interest and taxes (EBIT) ÷ (Total assets – Current liabilities)

0.14 = US $ 769 million ÷ (US $ 7.4 billion – US $ 1.9 billion) (Based on the last twelve months up to May 2021).

Therefore, Foot Locker has a ROCE of 14%. That’s a relatively normal return on capital, and it’s around the 17% generated by the specialty retail industry.

See our latest review for Foot Locker

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In the graph above, we measured Foot Locker’s past ROCE against its past performance, but arguably the future is more important. If you want, you can check out the analysts’ forecasts covering Foot Locker here for free.

How are the returns evolving?

When we looked at the ROCE trend at Foot Locker, we didn’t gain much trust. To be more precise, ROCE has increased by 30% over the past five years. Although, as income and the amount of assets used in the business have increased, this could suggest that the business is investing in growth and that the additional capital has resulted in a short-term reduction in ROCE. If these investments prove to be successful, it can bode very well for stock performance in the long run.

In this regard, we noticed that the ratio of current liabilities to total assets rose to 26%, which impacted ROCE. If current liabilities hadn’t grown as much as they did, the ROCE might actually be even lower. Keep an eye on this ratio, as the business could run into new risks if this metric gets too high.

Our Foot Locker ROCE

In summary, despite lower returns in the short term, we are encouraged to see that Foot Locker is reinvesting for growth and therefore has higher sales. These trends do not appear to have influenced returns, however, as the stock’s total return has been mostly stable over the past five years. So we think it would be interesting to dig deeper into this title given that the trends seem encouraging.

Foot Locker does come with some risks, though, and we’ve spotted 1 warning sign for Foot Locker that might interest you.

For those who like to invest in solid companies, Check it out free list of companies with strong balance sheets and high returns on equity.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in the mentioned stocks.

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