iQIYI (NASDAQ:IQ) Is Looking To Continue Growing Its Returns On Capital

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base 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. So on that note, iQIYI (NASDAQ:IQ) looks quite promising in regards to its trends of return on capital.

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. Analysts use this formula to calculate it for iQIYI:

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

0.088 = CN¥2.1b ÷ (CN¥52b - CN¥28b) (Based on the trailing twelve months to March 2023).

Therefore, iQIYI has an ROCE of 8.8%. In absolute terms, that's a low return and it also under-performs the Entertainment industry average of 12%.

See our latest analysis for iQIYI

In the above chart we have measured iQIYI's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.

SWOT Analysis for iQIYI

How Are Returns Trending?

The fact that iQIYI is now generating some pre-tax profits from its prior investments is very encouraging. About five years ago the company was generating losses but things have turned around because it's now earning 8.8% on its capital. And unsurprisingly, like most companies trying to break into the black, iQIYI is utilizing 157% more capital than it was five years ago. We like this trend, because it tells us the company has profitable reinvestment opportunities available to it, and if it continues going forward that can lead to a multi-bagger performance.

On a separate but related note, it's important to know that iQIYI has a current liabilities to total assets ratio of 53%, which we'd consider pretty high. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. While it's not necessarily a bad thing, it can be beneficial if this ratio is lower.

In Conclusion...

To the delight of most shareholders, iQIYI has now broken into profitability. And since the stock has dived 87% over the last five years, there may be other factors affecting the company's prospects. Still, it's worth doing some further research to see if the trends will continue into the future.

One more thing: We've identified 3 warning signs with iQIYI (at least 1 which doesn't sit too well with us) , and understanding these would certainly be useful.

If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.