If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. 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. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Speaking of which, we noticed some great changes in Karat Packaging's (NASDAQ:KRT) returns on capital, so let's have a look.

What Is Return On Capital Employed (ROCE)?

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. To calculate this metric for Karat Packaging, this is the formula:

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

0.18 = US$42m ÷ (US$279m - US$48m) (Based on the trailing twelve months to March 2024).

So, Karat Packaging has an ROCE of 18%. In absolute terms, that's a satisfactory return, but compared to the Trade Distributors industry average of 13% it's much better.

In the above chart we have measured Karat Packaging'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 analyst report for Karat Packaging .

What Does the ROCE Trend For Karat Packaging Tell Us?

We like the trends that we're seeing from Karat Packaging. The data shows that returns on capital have increased substantially over the last five years to 18%. The amount of capital employed has increased too, by 180%. So we're very much inspired by what we're seeing at Karat Packaging thanks to its ability to profitably reinvest capital.

In another part of our analysis, we noticed that the company's ratio of current liabilities to total assets decreased to 17%, which broadly means the business is relying less on its suppliers or short-term creditors to fund its operations. So this improvement in ROCE has come from the business' underlying economics, which is great to see.

The Key Takeaway

A company that is growing its returns on capital and can consistently reinvest in itself is a highly sought after trait, and that's what Karat Packaging has. And investors seem to expect more of this going forward, since the stock has rewarded shareholders with a 56% return over the last three years. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.

One more thing, we've spotted 1 warning sign facing Karat Packaging that you might find interesting.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

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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.

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