There are a few key trends to look for if we want to identify the next multi-bagger. 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. Speaking of which, we noticed some great changes in Zillow Group's (NASDAQ:ZG) returns on capital, so let's have a look.
What is Return On Capital Employed (ROCE)?
For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for Zillow Group:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.027 = US$197m ÷ (US$8.3b - US$933m) (Based on the trailing twelve months to March 2021).
Thus, Zillow Group has an ROCE of 2.7%. In absolute terms, that's a low return and it also under-performs the Interactive Media and Services industry average of 5.7%.NasdaqGS:ZG Return on Capital Employed May 18th 2021
Above you can see how the current ROCE for Zillow Group compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
What Does the ROCE Trend For Zillow Group Tell Us?
We're delighted to see that Zillow Group is reaping rewards from its investments and is now generating some pre-tax profits. The company was generating losses five years ago, but now it's earning 2.7% which is a sight for sore eyes. In addition to that, Zillow Group is employing 141% more capital than previously which is expected of a company that's trying to break into profitability. We like this trend, because it tells us the company has profitable reinvestment opportunities available to it, and if it continues going forward that can lead to a multi-bagger performance.
What We Can Learn From Zillow Group's ROCE
Long story short, we're delighted to see that Zillow Group's reinvestment activities have paid off and the company is now profitable. And with the stock having performed exceptionally well over the last five years, these patterns are being accounted for by investors. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.
Zillow Group does have some risks, we noticed 3 warning signs (and 1 which is concerning) we think you should know about.
For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.
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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