Returns On Capital Are Showing Encouraging Signs At Workday (NASDAQ:WDAY)

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, 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. So when we looked at Workday (NASDAQ:WDAY) and its trend of ROCE, we really liked what we saw.

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

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Workday:

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

0.029 = US$342m ÷ (US$16b - US$4.5b) (Based on the trailing twelve months to July 2024).

So, Workday has an ROCE of 2.9%. In absolute terms, that's a low return and it also under-performs the Software industry average of 8.6%.

Check out our latest analysis for Workday

Above you can see how the current ROCE for Workday 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 Workday for free.

What Can We Tell From Workday's ROCE Trend?

The fact that Workday is now generating some pre-tax profits from its prior investments is very encouraging. About five years ago the company was generating losses but things have turned around because it's now earning 2.9% on its capital. In addition to that, Workday is employing 358% more capital than previously which is expected of a company that's trying to break into profitability. This can tell us that the company has plenty of reinvestment opportunities that are able to generate higher returns.

On a related note, the company's ratio of current liabilities to total assets has decreased to 28%, which basically reduces it's funding from the likes of short-term creditors or suppliers. Therefore we can rest assured that the growth in ROCE is a result of the business' fundamental improvements, rather than a cooking class featuring this company's books.

What We Can Learn From Workday's ROCE

To the delight of most shareholders, Workday has now broken into profitability. Since the stock has returned a solid 50% to shareholders over the last five years, it's fair to say investors are beginning to recognize these changes. In light of that, we think it's worth looking further into this stock because if Workday 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 for WDAY on our platform that is definitely worth checking out.

While Workday may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.