There are a few key trends to look for if we want to identify the next multi-bagger. Ideally, a business will show two trends; firstly a growing return on capital employed (ROCE) and secondly, an increasing amount 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 on that note, D.R. Horton (NYSE:DHI) looks quite promising in regards to its trends of return on capital.
What is Return On Capital Employed (ROCE)?
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 D.R. Horton, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.19 = US$2.9b ÷ (US$19b - US$3.3b) (Based on the trailing twelve months to September 2020).
So, D.R. Horton has an ROCE of 19%. In absolute terms, that's a satisfactory return, but compared to the Consumer Durables industry average of 14% it's much better.
Above you can see how the current ROCE for D.R. Horton 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 D.R. Horton here for free.
What Can We Tell From D.R. Horton's ROCE Trend?
Investors would be pleased with what's happening at D.R. Horton. Over the last five years, returns on capital employed have risen substantially to 19%. The amount of capital employed has increased too, by 69%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.
Our Take On D.R. Horton's ROCE
To sum it up, D.R. Horton has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. And with the stock having performed exceptionally well over the last five years, these patterns are being accounted for by investors. So given the stock has proven it has promising trends, it's worth researching the company further to see if these trends are likely to persist.
On a final note, we've found 1 warning sign for D.R. Horton that we think you should be aware of.
While D.R. Horton 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.
This article by Simply Wall St is general in nature. 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.
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