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. 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. So on that note, Lovesac (NASDAQ:LOVE) looks quite promising in regards to its trends of return on capital.

Understanding 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. Analysts use this formula to calculate it for Lovesac:

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

0.018 = US$6.4m ÷ (US$500m - US$141m) (Based on the trailing twelve months to November 2024).

Therefore, Lovesac has an ROCE of 1.8%. Ultimately, that's a low return and it under-performs the Consumer Durables industry average of 14%.

Check out our latest analysis for Lovesac

Above you can see how the current ROCE for Lovesac 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 Lovesac for free.

The Trend Of ROCE

The fact that Lovesac is now generating some pre-tax profits from its prior investments is very encouraging. About five years ago the company was generating losses but things have turned around because it's now earning 1.8% on its capital. In addition to that, Lovesac is employing 312% more capital than previously which is expected of a company that's trying to break into profitability. This can tell us that the company has plenty of reinvestment opportunities that are able to generate higher returns.

Our Take On Lovesac's ROCE

In summary, it's great to see that Lovesac has managed to break into profitability and is continuing to reinvest in its business. 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.

Lovesac does have some risks though, and we've spotted 3 warning signs for Lovesac that you might be interested in.

While Lovesac 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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.