Investors Will Want Warner Music Group's (NASDAQ:WMG) Growth In ROCE To Persist

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding 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 Warner Music Group (NASDAQ:WMG) and its trend of ROCE, we really liked what we saw.

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. To calculate this metric for Warner Music Group, this is the formula:

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

0.19 = US$977m ÷ (US$8.7b - US$3.5b) (Based on the trailing twelve months to March 2024).

So, Warner Music Group has an ROCE of 19%. On its own, that's a standard return, however it's much better than the 11% generated by the Entertainment industry.

See our latest analysis for Warner Music Group

Above you can see how the current ROCE for Warner Music Group 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 analyst report for Warner Music Group .

What Can We Tell From Warner Music Group's ROCE Trend?

We like the trends that we're seeing from Warner Music Group. The data shows that returns on capital have increased substantially over the last five years to 19%. Basically the business is earning more per dollar of capital invested and in addition to that, 54% more capital is being employed now too. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

Another thing to note, Warner Music Group has a high ratio of current liabilities to total assets of 40%. 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...

All in all, it's terrific to see that Warner Music Group is reaping the rewards from prior investments and is growing its capital base. And given the stock has remained rather flat over the last three years, there might be an opportunity here if other metrics are strong. That being the case, research into the company's current valuation metrics and future prospects seems fitting.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 2 warning signs for Warner Music Group (of which 1 makes us a bit uncomfortable!) that you should know about.

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.

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.

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