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To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Speaking of which, we noticed some great changes in DigitalOcean Holdings' (NYSE:DOCN) returns on capital, so let's have a look.
We've discovered 2 warning signs about DigitalOcean Holdings. View them for free.
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. To calculate this metric for DigitalOcean Holdings, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.074 = US$104m ÷ (US$1.6b - US$221m) (Based on the trailing twelve months to December 2024).
So, DigitalOcean Holdings has an ROCE of 7.4%. Ultimately, that's a low return and it under-performs the IT industry average of 9.8%.
View our latest analysis for DigitalOcean Holdings
In the above chart we have measured DigitalOcean Holdings' 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 analyst report for DigitalOcean Holdings .
The Trend Of ROCE
We're delighted to see that DigitalOcean Holdings is reaping rewards from its investments and is now generating some pre-tax profits. About five years ago the company was generating losses but things have turned around because it's now earning 7.4% on its capital. And unsurprisingly, like most companies trying to break into the black, DigitalOcean Holdings is utilizing 517% more capital than it was five years ago. We like this trend, because it tells us the company has profitable reinvestment opportunities available to it, and if it continues going forward that can lead to a multi-bagger performance.
On a related note, the company's ratio of current liabilities to total assets has decreased to 13%, 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.
The Bottom Line
In summary, it's great to see that DigitalOcean Holdings has managed to break into profitability and is continuing to reinvest in its business. Given the stock has declined 42% in the last three years, this could be a good investment if the valuation and other metrics are also appealing. That being the case, research into the company's current valuation metrics and future prospects seems fitting.