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What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. However, after briefly looking over the numbers, we don't think Abercrombie & Fitch (NYSE:ANF) has the makings of a multi-bagger going forward, but let's have a look at why that may be.
Return On Capital Employed (ROCE): What is it?
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. The formula for this calculation on Abercrombie & Fitch is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.0015 = US$3.5m ÷ (US$3.3b - US$959m) (Based on the trailing twelve months to January 2021).
Therefore, Abercrombie & Fitch has an ROCE of 0.1%. Ultimately, that's a low return and it under-performs the Specialty Retail industry average of 13%.
Above you can see how the current ROCE for Abercrombie & Fitch 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 Abercrombie & Fitch here for free.
So How Is Abercrombie & Fitch's ROCE Trending?
On the surface, the trend of ROCE at Abercrombie & Fitch doesn't inspire confidence. Around five years ago the returns on capital were 5.7%, but since then they've fallen to 0.1%. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.
The Bottom Line
We're a bit apprehensive about Abercrombie & Fitch because despite more capital being deployed in the business, returns on that capital and sales have both fallen. But investors must be expecting an improvement of sorts because over the last five yearsthe stock has delivered a respectable 70% return. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.
On a final note, we've found 1 warning sign for Abercrombie & Fitch that we think you should be aware of.
While Abercrombie & Fitch may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.
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.
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