Here's What's Concerning About Spin Master's (TSE:TOY) Returns On Capital

What are the early trends we should look for to identify a stock that could multiply in value over the long term? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing 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. Looking at Spin Master (TSE:TOY), it does have a high ROCE right now, but lets see how returns are trending.

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 Spin Master, this is the formula:

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

0.22 = US$303m ÷ (US$1.8b - US$424m) (Based on the trailing twelve months to December 2022).

Therefore, Spin Master has an ROCE of 22%. In absolute terms that's a very respectable return and compared to the Leisure industry average of 21% it's pretty much on par.

See our latest analysis for Spin Master

In the above chart we have measured Spin Master's 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.

SWOT Analysis for Spin Master

How Are Returns Trending?

When we looked at the ROCE trend at Spin Master, we didn't gain much confidence. Historically returns on capital were even higher at 45%, but they have dropped over the last five years. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

On a side note, Spin Master has done well to pay down its current liabilities to 24% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

Our Take On Spin Master's ROCE

Bringing it all together, while we're somewhat encouraged by Spin Master's reinvestment in its own business, we're aware that returns are shrinking. Since the stock has declined 27% over the last five years, investors may not be too optimistic on this trend improving either. Therefore based on the analysis done in this article, we don't think Spin Master has the makings of a multi-bagger.

Spin Master does have some risks, we noticed 3 warning signs (and 2 which make us uncomfortable) we think you should know about.

High returns are a key ingredient to strong performance, so check out our free list ofstocks earning high returns on equity with solid balance sheets.

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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.