Dollar General (NYSE:DG) Is Reinvesting At Lower Rates Of Return

There are a few key trends to look for if we want to identify the next 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Having said that, from a first glance at Dollar General (NYSE:DG) 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?

Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. The formula for this calculation on Dollar General is:

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

0.16 = US$3.3b ÷ (US$26b - US$5.7b) (Based on the trailing twelve months to October 2021).

Therefore, Dollar General has an ROCE of 16%. In absolute terms, that's a pretty normal return, and it's somewhat close to the Multiline Retail industry average of 14%.

See our latest analysis for Dollar General

In the above chart we have measured Dollar General'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.

So How Is Dollar General's ROCE Trending?

On the surface, the trend of ROCE at Dollar General doesn't inspire confidence. Around five years ago the returns on capital were 22%, but since then they've fallen to 16%. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

What We Can Learn From Dollar General's ROCE

Bringing it all together, while we're somewhat encouraged by Dollar General's reinvestment in its own business, we're aware that returns are shrinking. Investors must think there's better things to come because the stock has knocked it out of the park, delivering a 186% gain to shareholders who have held over the last five years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

If you'd like to know about the risks facing Dollar General, we've discovered 1 warning sign that you should be aware of.

While Dollar General isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.