Alibaba Group Holding (NYSE:BABA) Might Be Having Difficulty Using Its Capital Effectively

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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 Alibaba Group Holding (NYSE:BABA) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Return On Capital Employed (ROCE): What Is It?

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. To calculate this metric for Alibaba Group Holding, this is the formula:

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

0.078 = CN¥106b ÷ (CN¥1.8t - CN¥418b) (Based on the trailing twelve months to December 2022).

So, Alibaba Group Holding has an ROCE of 7.8%. Ultimately, that's a low return and it under-performs the Multiline Retail industry average of 15%.

View our latest analysis for Alibaba Group Holding

Above you can see how the current ROCE for Alibaba Group Holding compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Alibaba Group Holding here for free.

What Can We Tell From Alibaba Group Holding's ROCE Trend?

When we looked at the ROCE trend at Alibaba Group Holding, we didn't gain much confidence. Around five years ago the returns on capital were 12%, but since then they've fallen to 7.8%. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

The Bottom Line

Bringing it all together, while we're somewhat encouraged by Alibaba Group Holding's reinvestment in its own business, we're aware that returns are shrinking. Since the stock has declined 49% over the last five years, investors may not be too optimistic on this trend improving either. In any case, the stock doesn't have these traits of a multi-bagger discussed above, so if that's what you're looking for, we think you'd have more luck elsewhere.

Alibaba Group Holding does have some risks though, and we've spotted 2 warning signs for Alibaba Group Holding that you might be interested in.

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. 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.