Domino's Pizza Group (LON:DOM) May Have Issues Allocating Its Capital

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Looking at Domino's Pizza Group (LON:DOM), it does have a high ROCE right now, but lets see how returns are trending.

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. The formula for this calculation on Domino's Pizza Group is:

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

0.26 = UK£106m ÷ (UK£522m - UK£118m) (Based on the trailing twelve months to December 2021).

So, Domino's Pizza Group has an ROCE of 26%. That's a fantastic return and not only that, it outpaces the average of 4.0% earned by companies in a similar industry.

Check out our latest analysis for Domino's Pizza Group

Above you can see how the current ROCE for Domino's Pizza Group 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 Domino's Pizza Group.

How Are Returns Trending?

When we looked at the ROCE trend at Domino's Pizza Group, we didn't gain much confidence. To be more specific, while the ROCE is still high, it's fallen from 48% where it was five years ago. However, given capital employed and revenue have both increased it appears that the business is currently pursuing growth, at the consequence of short term returns. If these investments prove successful, this can bode very well for long term stock performance.

On a related note, Domino's Pizza Group has decreased its current liabilities to 23% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.

The Key Takeaway

In summary, despite lower returns in the short term, we're encouraged to see that Domino's Pizza Group is reinvesting for growth and has higher sales as a result. In light of this, the stock has only gained 21% over the last five years. Therefore we'd recommend looking further into this stock to confirm if it has the makings of a good investment.

Domino's Pizza Group does come with some risks though, we found 3 warning signs in our investment analysis, and 1 of those is potentially serious...

Domino's Pizza Group 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.