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What are the early trends we should look for to identify a stock that could multiply in value over the long term? 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. So on that note, CarGurus (NASDAQ:CARG) looks quite promising in regards to its trends of return on capital.

Understanding Return On Capital Employed (ROCE)

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. Analysts use this formula to calculate it for CarGurus:

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

0.11 = US$40m ÷ (US$406m - US$58m) (Based on the trailing twelve months to March 2020).

So, CarGurus has an ROCE of 11%. In absolute terms, that's a satisfactory return, but compared to the Interactive Media and Services industry average of 7.2% it's much better.

Check out our latest analysis for CarGurus

Above you can see how the current ROCE for CarGurus 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 CarGurus here for free.

The Trend Of ROCE

The trends we've noticed at CarGurus are quite reassuring. Over the last four years, returns on capital employed have risen substantially to 11%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 445%. The increasing returns on a growing amount of capital is common amongst multi-baggers and that's why we're impressed.

The Bottom Line

All in all, it's terrific to see that CarGurus is reaping the rewards from prior investments and is growing its capital base. Given the stock has declined 33% in the last year, there could be a chance of a good investment here if the valuation makes sense. With that in mind, we believe the promising trends warrant this stock for further investigation.

One more thing to note, we've identified 2 warning signs with CarGurus and understanding these should be part of your investment process.

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.

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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