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What are the early trends we should look for to identify a stock that could multiply in value over the long term? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. 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 Etsy's (NASDAQ:ETSY) 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. To calculate this metric for Etsy, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.27 = US$551m ÷ (US$2.5b - US$427m) (Based on the trailing twelve months to March 2021).
Thus, Etsy has an ROCE of 27%. In absolute terms that's a great return and it's even better than the Online Retail industry average of 14%.
Above you can see how the current ROCE for Etsy compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Etsy here for free.
What The Trend Of ROCE Can Tell Us
Etsy is displaying some positive trends. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 27%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 339%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.
The Bottom Line On Etsy's ROCE
To sum it up, Etsy has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. Since the stock has returned a staggering 1,778% to shareholders over the last five years, it looks like investors are recognizing these changes. Therefore, we think it would be worth your time to check if these trends are going to continue.
If you want to continue researching Etsy, you might be interested to know about the 2 warning signs that our analysis has discovered.
Etsy 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.
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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