To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. However, after briefly looking over the numbers, we don't think CarGurus (NASDAQ:CARG) has the makings of a multi-bagger going forward, but let's have a look at why that may be.

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. The formula for this calculation on CarGurus is:

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

0.09 = US$85m ÷ (US$1.0b - US$109m) (Based on the trailing twelve months to September 2023).

So, CarGurus has an ROCE of 9.0%. On its own that's a low return on capital but it's in line with the industry's average returns of 9.0%.

Check out our latest analysis for CarGurus

In the above chart we have measured CarGurus' 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 report on analyst forecasts for the company.

The Trend Of ROCE

In terms of CarGurus' historical ROCE trend, it doesn't exactly demand attention. The company has employed 426% more capital in the last five years, and the returns on that capital have remained stable at 9.0%. Given the company has increased the amount of capital employed, it appears the investments that have been made simply don't provide a high return on capital.

On a side note, CarGurus has done well to reduce current liabilities to 10% of total assets over the last five years. Effectively suppliers now fund less of the business, which can lower some elements of risk.

The Key Takeaway

As we've seen above, CarGurus' returns on capital haven't increased but it is reinvesting in the business. And in the last five years, the stock has given away 35% so the market doesn't look too hopeful on these trends strengthening any time soon. All in all, the inherent trends aren't typical of multi-baggers, so if that's what you're after, we think you might have more luck elsewhere.

One more thing, we've spotted 1 warning sign facing CarGurus that you might find interesting.

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.