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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. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing 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. And in light of that, the trends we're seeing at Sonos' (NASDAQ:SONO) look very promising so lets take a look.
Understanding 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$154m ÷ (US$1.2b - US$464m) (Based on the trailing twelve months to April 2022).
Therefore, Sonos has an ROCE of 20%. That's a fantastic return and not only that, it outpaces the average of 16% earned by companies in a similar industry.
In the above chart we have measured Sonos' prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Sonos here for free.
The Trend Of ROCE
The fact that Sonos 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 20% on its capital. In addition to that, Sonos is employing 401% 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.
One more thing to note, Sonos has decreased current liabilities to 38% of total assets over this period, which effectively reduces the amount of funding from suppliers or short-term creditors. This tells us that Sonos has grown its returns without a reliance on increasing their current liabilities, which we're very happy with.
The Bottom Line
Long story short, we're delighted to see that Sonos' reinvestment activities have paid off and the company is now profitable. Since the stock has returned a solid 68% to shareholders over the last three years, it's fair to say investors are beginning to recognize these changes. 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.
If you want to continue researching Sonos, you might be interested to know about the 2 warning signs that our analysis has discovered.
Sonos is not the only stock earning high returns. If you'd like to see more, check out our free list of companies earning high returns on equity with solid fundamentals.
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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.