Returns on Capital Paint A Bright Future For Cadence Design Systems (NASDAQ:CDNS)

What trends should we look for it we want to identify stocks that can multiply in value over the long term? In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. And in light of that, the trends we're seeing at Cadence Design Systems' (NASDAQ:CDNS) look very promising so lets take a look.

What Is Return On Capital Employed (ROCE)?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Cadence Design Systems, this is the formula:

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

0.27 = US$1.1b ÷ (US$5.2b - US$1.2b) (Based on the trailing twelve months to March 2023).

So, Cadence Design Systems has an ROCE of 27%. In absolute terms that's a great return and it's even better than the Software industry average of 9.3%.

View our latest analysis for Cadence Design Systems

In the above chart we have measured Cadence Design Systems' 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.

How Are Returns Trending?

Cadence Design Systems is displaying some positive trends. Over the last five years, returns on capital employed have risen substantially to 27%. Basically the business is earning more per dollar of capital invested and in addition to that, 146% more capital is being employed now too. This can indicate that there's plenty of opportunities to invest capital internally and at ever higher rates, a combination that's common among multi-baggers.

On a related note, the company's ratio of current liabilities to total assets has decreased to 23%, which basically reduces it's funding from the likes of short-term creditors or suppliers. So shareholders would be pleased that the growth in returns has mostly come from underlying business performance.

In Conclusion...

In summary, it's great to see that Cadence Design Systems 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. And a remarkable 411% total return over the last five years tells us that investors are expecting more good things to come in the future. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

On a separate note, we've found 1 warning sign for Cadence Design Systems you'll probably want to know about.

High returns are a key ingredient to strong performance, so check out our free list ofstocks 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.