Return on capital, explained

When you study companies that turned one dollar into a hundred, one number is almost always there: return on capital employed (ROCE). Chris Mayer found that what his 365 hundred-baggers had in common was not the industry or the market size, or even how fast revenue grew. It was their ability to earn high returns on the money they put to work, and keep doing it for years.

The question it answers

For every dollar a business puts to work, how many cents does it earn back each year?

ROCE = EBIT ÷ (Net working capital + Net fixed assets)

EBIT is operating profit: earnings before interest and tax, the profit from running the business before financing costs and taxes.
Net working capital is money tied up in day-to-day operations: inventory and money owed by customers, minus what the company owes its suppliers.
Net fixed assets are the long-term physical things: factories, equipment, property.

One adjustment matters: strip out excess cash. A pile of cash the company has not deployed is not working, and counting it would make the business look less efficient than it is.

Mayer's book talks about return on equity and return on invested capital. ROCE with excess cash removed is our preferred way of asking the same question: how good is this business at turning money into more money? A company that earns 20% or more, consistently, is doing something genuinely special.

High returns are not enough

What you really want is a company that earns high returns and can keep reinvesting its profits at those same rates for a long time. Earn, reinvest, earn again. If the market is small, or competitors copy the model, a 25% return does not last.

Home Capital Group, a Canadian mortgage lender, kept return on equity between 20% and 30% for roughly 16 years, and the stock rose 49-fold. Its yearly stock gain tracked its average return on equity almost exactly. Over long periods, what a stock returns tends to match what the business earns.
Monster Beverage (formerly Hansen Natural) hired other manufacturers to make its drinks, so very little capital was tied up in the business. As earnings grew and the capital base stayed small, returns rose. It became a 100-bagger in roughly ten years from 2001, and brand loyalty protected its pricing, its margins and so its returns.

Two reasons the number falls

This is where most investors go wrong. A falling ROCE has two very different causes:

The business is losing its edge. Customers leave, competitors win on price, the company cannot charge what it used to. A sustained, multi-year decline coming from the business itself is a real warning sign.
The company is investing in its future. Acquisitions, new countries, new products. The spending lands in the capital base immediately, while the profit takes time to arrive. The number looks bad before it looks good.

Amazon is Mayer's example of the second: for years it posted almost no profit, but adding back what it spent on research and development showed margins of roughly 9% to 10% even in its heaviest spending years.

Always ask: is the business getting worse, or getting bigger?

A live case: Hims & Hers

Hims & Hers spent heavily to grow: it bought YourBio (at-home blood draws), built out its Labs service, and announced the acquisition of Eucalyptus (Australia, the UK, Germany, Japan and Canada), partly funded by a $350 million convertible note. On our measure (excess cash removed), ROCE peaked at around 38% in early 2025 and fell to about 6% by late 2025.

The decline came from the capital side, not the earnings side, so the evidence pointed more towards getting bigger than getting worse. It was not a clean picture: moving from high-margin compounded semaglutide to distributing brand-name drugs at lower margins was a genuine challenge, and FDA reviews and the Eucalyptus integration were open questions. That thesis still needs results to back it up.

The takeaway

High ROCE held for a long time is one of the clearest signs of a structural edge. When it falls, do not panic. Ask why. A business spending on its future and a business losing its edge look the same from the outside. They are not the same at all.