What are the early trends we should look for to identify a stock that could 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at DP Eurasia (LON:DPEU) 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 DP Eurasia, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.14 = ₺47m ÷ (₺1.2b - ₺822m) (Based on the trailing twelve months to December 2021).
Therefore, DP Eurasia has an ROCE of 14%. In absolute terms, that's a satisfactory return, but compared to the Hospitality industry average of 4.0% it's much better.
View our latest analysis for DP Eurasia
In the above chart we have measured DP Eurasia's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering DP Eurasia here for free.
How Are Returns Trending?
When we looked at the ROCE trend at DP Eurasia, we didn't gain much confidence. Around five years ago the returns on capital were 27%, but since then they've fallen to 14%. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. If these investments prove successful, this can bode very well for long term stock performance.
While on the subject, we noticed that the ratio of current liabilities to total assets has risen to 70%, which has impacted the ROCE. If current liabilities hadn't increased as much as they did, the ROCE could actually be even lower. And with current liabilities at these levels, suppliers or short-term creditors are effectively funding a large part of the business, which can introduce some risks.
The Bottom Line
In summary, despite lower returns in the short term, we're encouraged to see that DP Eurasia is reinvesting for growth and has higher sales as a result. And there could be an opportunity here if other metrics look good too, because the stock has declined 49% in the last three years. As a result, we'd recommend researching this stock further to uncover what other fundamentals of the business can show us.