CD Projekt (WSE:CDR) May Have Issues Allocating Its Capital

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. Although, when we looked at CD Projekt (WSE:CDR), it didn't seem to tick all of these boxes.

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 CD Projekt is:

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

0.16 = zł310m ÷ (zł2.3b - zł255m) (Based on the trailing twelve months to March 2022).

Thus, CD Projekt has an ROCE of 16%. In absolute terms, that's a pretty standard return but compared to the Entertainment industry average it falls behind.

See our latest analysis for CD Projekt

In the above chart we have measured CD Projekt'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 CD Projekt.

So How Is CD Projekt's ROCE Trending?

When we looked at the ROCE trend at CD Projekt, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 16% from 39% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

In Conclusion...

In summary, we're somewhat concerned by CD Projekt's diminishing returns on increasing amounts of capital. Investors must expect better things on the horizon though because the stock has risen 19% in the last five years. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

CD Projekt does come with some risks though, we found 2 warning signs in our investment analysis, and 1 of those doesn't sit too well with us...

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.