Be Wary Of dotdigital Group (LON:DOTD) And Its Returns On Capital

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. However, after investigating dotdigital Group (LON:DOTD), we don't think it's current trends fit the mold of a multi-bagger.

Understanding 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. The formula for this calculation on dotdigital Group is:

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

0.19 = UK£14m ÷ (UK£88m - UK£13m) (Based on the trailing twelve months to June 2022).

So, dotdigital Group has an ROCE of 19%. In absolute terms, that's a satisfactory return, but compared to the Software industry average of 9.0% it's much better.

Check out our latest analysis for dotdigital Group

In the above chart we have measured dotdigital Group'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 dotdigital Group.

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at dotdigital Group, we didn't gain much confidence. To be more specific, ROCE has fallen from 27% over the last five years. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

In Conclusion...

In summary, dotdigital Group is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. And with the stock having returned a mere 23% in the last five years to shareholders, you could argue that they're aware of these lackluster trends. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.

While dotdigital Group doesn't shine too bright in this respect, it's still worth seeing if the company is trading at attractive prices. You can find that out with our FREE intrinsic value estimation on our platform.

While dotdigital Group may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.