Slowing Rates Of Return At 1&1 (ETR:1U1) Leave Little Room For Excitement

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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. That's why when we briefly looked at 1&1's (ETR:1U1) ROCE trend, we were pretty happy with what we saw.

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. The formula for this calculation on 1&1 is:

Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)

0.12 = €802m ÷ (€7.4b - €822m) (Based on the trailing twelve months to June 2022).

So, 1&1 has an ROCE of 12%. In absolute terms, that's a satisfactory return, but compared to the Wireless Telecom industry average of 9.7% it's much better.

Our analysis indicates that 1U1 is potentially undervalued!

In the above chart we have measured 1&1's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

So How Is 1&1's ROCE Trending?

While the current returns on capital are decent, they haven't changed much. The company has employed 126% more capital in the last five years, and the returns on that capital have remained stable at 12%. 12% is a pretty standard return, and it provides some comfort knowing that 1&1 has consistently earned this amount. Stable returns in this ballpark can be unexciting, but if they can be maintained over the long run, they often provide nice rewards to shareholders.

One more thing to note, even though ROCE has remained relatively flat over the last five years, the reduction in current liabilities to 11% of total assets, is good to see from a business owner's perspective. Effectively suppliers now fund less of the business, which can lower some elements of risk.

What We Can Learn From 1&1's ROCE

The main thing to remember is that 1&1 has proven its ability to continually reinvest at respectable rates of return. Despite these impressive fundamentals, the stock has collapsed 78% over the last five years, so there is likely other factors affecting the company's future prospects. In any case, we like the underlying trends and would look further into this stock.

If you want to know some of the risks facing 1&1 we've found 2 warning signs (1 is significant!) that you should be aware of before investing here.

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.

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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.