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Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base 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. So when we looked at AppFolio (NASDAQ:APPF) and its trend of ROCE, we really liked what we saw.
What is Return On Capital Employed (ROCE)?
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for AppFolio:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.041 = US$14m ÷ (US$389m - US$50m) (Based on the trailing twelve months to December 2020).
Therefore, AppFolio has an ROCE of 4.1%. Ultimately, that's a low return and it under-performs the Software industry average of 11%.
In the above chart we have measured AppFolio's prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free report for AppFolio.
What Can We Tell From AppFolio's ROCE Trend?
We're delighted to see that AppFolio is reaping rewards from its investments and is now generating some pre-tax profits. About five years ago the company was generating losses but things have turned around because it's now earning 4.1% on its capital. Not only that, but the company is utilizing 362% more capital than before, but that's to be expected from a company 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.
The Bottom Line
To the delight of most shareholders, AppFolio has now broken into profitability. And a remarkable 1,051% total return over the last five years 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 AppFolio can keep these trends up, it could have a bright future ahead.
On a separate note, we've found 2 warning signs for AppFolio you'll probably want to know about.
While AppFolio isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.
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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