Slowing Rates Of Return At DoubleDown Interactive (NASDAQ:DDI) Leave Little Room For Excitement

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. 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. Having said that, from a first glance at DoubleDown Interactive (NASDAQ:DDI) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on DoubleDown Interactive is:

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

0.11 = US$93m ÷ (US$1.0b - US$171m) (Based on the trailing twelve months to September 2022).

Thus, DoubleDown Interactive has an ROCE of 11%. In absolute terms, that's a satisfactory return, but compared to the Entertainment industry average of 8.4% it's much better.

View our latest analysis for DoubleDown Interactive

Above you can see how the current ROCE for DoubleDown Interactive compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

How Are Returns Trending?

Things have been pretty stable at DoubleDown Interactive, with its capital employed and returns on that capital staying somewhat the same for the last two years. It's not uncommon to see this when looking at a mature and stable business that isn't re-investing its earnings because it has likely passed that phase of the business cycle. With that in mind, unless investment picks up again in the future, we wouldn't expect DoubleDown Interactive to be a multi-bagger going forward.

Another point to note, we noticed the company has increased current liabilities over the last two years. This is intriguing because if current liabilities hadn't increased to 17% of total assets, this reported ROCE would probably be less than11% because total capital employed would be higher.The 11% ROCE could be even lower if current liabilities weren't 17% of total assets, because the the formula would show a larger base of total capital employed. So while current liabilities isn't high right now, keep an eye out in case it increases further, because this can introduce some elements of risk.

The Bottom Line

In summary, DoubleDown Interactive isn't compounding its earnings but is generating stable returns on the same amount of capital employed. And in the last year, the stock has given away 35% so the market doesn't look too hopeful on these trends strengthening any time soon. Therefore based on the analysis done in this article, we don't think DoubleDown Interactive has the makings of a multi-bagger.

Like most companies, DoubleDown Interactive does come with some risks, and we've found 1 warning sign that you should be aware of.

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.