Capital Allocation Trends At Tapestry (NYSE:TPR) Aren't Ideal
Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Having said that, from a first glance at Tapestry (NYSE:TPR) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.
Understanding Return On Capital Employed (ROCE)
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. The formula for this calculation on Tapestry is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.10 = US$1.2b ÷ (US$14b - US$1.4b) (Based on the trailing twelve months to December 2023).
Therefore, Tapestry has an ROCE of 10%. That's a relatively normal return on capital, and it's around the 12% generated by the Luxury industry.
Check out our latest analysis for Tapestry
Above you can see how the current ROCE for Tapestry 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 Tapestry .
What The Trend Of ROCE Can Tell Us
On the surface, the trend of ROCE at Tapestry doesn't inspire confidence. Over the last five years, returns on capital have decreased to 10% from 16% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It may take some time before the company starts to see any change in earnings from these investments.
The Key Takeaway
Bringing it all together, while we're somewhat encouraged by Tapestry's reinvestment in its own business, we're aware that returns are shrinking. Since the stock has gained an impressive 58% over the last five years, investors must think there's better things to come. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.
Tapestry does have some risks though, and we've spotted 1 warning sign for Tapestry that you might be interested in.
While Tapestry isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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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.
