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. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. With that in mind, the ROCE of e.l.f. Beauty (NYSE:ELF) looks great, so lets see what the trend can tell us.

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. The formula for this calculation on e.l.f. Beauty is:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.22 = US$132m ÷ (US$747m - US$152m) (Based on the trailing twelve months to September 2023).

So, e.l.f. Beauty has an ROCE of 22%. That's a fantastic return and not only that, it outpaces the average of 14% earned by companies in a similar industry.

See our latest analysis for e.l.f. Beauty

In the above chart we have measured e.l.f. Beauty's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

How Are Returns Trending?

e.l.f. Beauty is displaying some positive trends. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 22%. The amount of capital employed has increased too, by 57%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. The current liabilities has increased to 20% of total assets, so the business is now more funded by the likes of its suppliers or short-term creditors. Keep an eye out for future increases because when the ratio of current liabilities to total assets gets particularly high, this can introduce some new risks for the business.

Our Take On e.l.f. Beauty's ROCE

In summary, it's great to see that e.l.f. Beauty can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. And with the stock having performed exceptionally well over the last five years, these patterns are being accounted for by investors. Therefore, we think it would be worth your time to check if these trends are going to continue.

On a separate note, we've found 2 warning signs for e.l.f. Beauty you'll probably want to know about.

If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets here.

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.