- Oops!Something went wrong.Please try again later.
If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, 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. So when we looked at Sonos (NASDAQ:SONO) and its trend of ROCE, we really liked what we saw.
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 Sonos, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.20 = US$133m ÷ (US$1.0b - US$371m) (Based on the trailing twelve months to April 2021).
So, Sonos has an ROCE of 20%. In absolute terms, that's a satisfactory return, but compared to the Consumer Durables industry average of 14% it's much better.
Above you can see how the current ROCE for Sonos compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for Sonos.
So How Is Sonos' ROCE Trending?
Sonos has recently broken into profitability so their prior investments seem to be paying off. About four years ago the company was generating losses but things have turned around because it's now earning 20% on its capital. In addition to that, Sonos is employing 344% more capital than previously which is expected of a company that's trying to break into profitability. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, both common traits of a multi-bagger.
One more thing to note, Sonos has decreased current liabilities to 35% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. Therefore we can rest assured that the growth in ROCE is a result of the business' fundamental improvements, rather than a cooking class featuring this company's books.
Overall, Sonos gets a big tick from us thanks in most part to the fact that it is now profitable and is reinvesting in its business. And a remarkable 137% total return over the last year tells us that investors are expecting more good things to come in the future. In light of that, we think it's worth looking further into this stock because if Sonos can keep these trends up, it could have a bright future ahead.
On a final note, we've found 1 warning sign for Sonos that we think you should be aware of.
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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.