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. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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 Amazon.com (NASDAQ:AMZN) 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. The formula for this calculation on Amazon.com is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.12 = US$23b ÷ (US$321b - US$126b) (Based on the trailing twelve months to December 2020).
Thus, Amazon.com has an ROCE of 12%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Online Retail industry average of 13%.
Above you can see how the current ROCE for Amazon.com 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.
So How Is Amazon.com's ROCE Trending?
The trends we've noticed at Amazon.com are quite reassuring. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 12%. Basically the business is earning more per dollar of capital invested and in addition to that, 530% more capital is being employed now too. So we're very much inspired by what we're seeing at Amazon.com thanks to its ability to profitably reinvest capital.
In another part of our analysis, we noticed that the company's ratio of current liabilities to total assets decreased to 39%, which broadly means the business is relying less on its suppliers or short-term creditors to fund its operations. So this improvement in ROCE has come from the business' underlying economics, which is great to see.
In summary, it's great to see that Amazon.com can compound returns by consistently reinvesting capital at increasing rates of return, because these are some of the key ingredients of those highly sought after multi-baggers. Since the stock has returned a staggering 410% to shareholders over the last five years, it looks like investors are recognizing these changes. In light of that, we think it's worth looking further into this stock because if Amazon.com can keep these trends up, it could have a bright future ahead.
On the other side of ROCE, we have to consider valuation. That's why we have a FREE intrinsic value estimation on our platform that is definitely worth checking out.
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.
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This article by Simply Wall St is general in nature. 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.
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