If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. So when we looked at Dream Finders Homes (NASDAQ:DFH) and its trend of ROCE, we really liked 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. Analysts use this formula to calculate it for Dream Finders Homes:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.089 = US$146m ÷ (US$1.9b - US$259m) (Based on the trailing twelve months to December 2021).
So, Dream Finders Homes has an ROCE of 9.0%. In absolute terms, that's a low return and it also under-performs the Consumer Durables industry average of 14%.
Above you can see how the current ROCE for Dream Finders Homes 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 Dream Finders Homes.
What Can We Tell From Dream Finders Homes' ROCE Trend?
We're glad to see that ROCE is heading in the right direction, even if it is still low at the moment. Over the last three years, returns on capital employed have risen substantially to 9.0%. The amount of capital employed has increased too, by 476%. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.
In another part of our analysis, we noticed that the company's ratio of current liabilities to total assets decreased to 14%, which broadly means the business is relying less on its suppliers or short-term creditors to fund its operations. So shareholders would be pleased that the growth in returns has mostly come from underlying business performance.
What We Can Learn From Dream Finders Homes' ROCE
To sum it up, Dream Finders Homes has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And since the stock has fallen 27% over the last year, there might be an opportunity here. So researching this company further and determining whether or not these trends will continue seems justified.
One final note, you should learn about the 2 warning signs we've spotted with Dream Finders Homes (including 1 which 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.
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.