If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? 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. With that in mind, we've noticed some promising trends at Warner Music Group (NASDAQ:WMG) so let's look a bit deeper.
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 Warner Music Group:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.16 = US$717m ÷ (US$7.8b - US$3.4b) (Based on the trailing twelve months to September 2022).
So, Warner Music Group has an ROCE of 16%. On its own, that's a standard return, however it's much better than the 8.4% generated by the Entertainment industry.
See our latest analysis for Warner Music Group
NasdaqGS:WMG Return on Capital Employed January 31st 2023
Above you can see how the current ROCE for Warner Music Group compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free report on analyst forecasts for the company.
What Does the ROCE Trend For Warner Music Group Tell Us?
The trends we've noticed at Warner Music Group are quite reassuring. Over the last five years, returns on capital employed have risen substantially to 16%. Basically the business is earning more per dollar of capital invested and in addition to that, 23% 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 side note, Warner Music Group's current liabilities are still rather high at 43% of total assets. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.
The Bottom Line On Warner Music Group's ROCE
All in all, it's terrific to see that Warner Music Group is reaping the rewards from prior investments and is growing its capital base. Given the stock has declined 17% in the last year, this could be a good investment if the valuation and other metrics are also appealing. So researching this company further and determining whether or not these trends will continue seems justified.
If you want to know some of the risks facing Warner Music Group we've found 3 warning signs (1 is a bit unpleasant!) that you should be aware of before investing here.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive returns on equity.
Have feedback on this article? Concerned about the content?Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com. 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.
