Capital Allocation Trends At Tederic Machinery (SHSE:603289) Aren't Ideal

If you're not sure where to start when looking for the next multi-bagger, there are a few key trends you should keep an eye out for. 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Tederic Machinery (SHSE:603289) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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 Tederic Machinery:

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

0.067 = CN¥96m ÷ (CN¥2.4b - CN¥952m) (Based on the trailing twelve months to March 2024).

Therefore, Tederic Machinery has an ROCE of 6.7%. On its own that's a low return, but compared to the average of 5.6% generated by the Machinery industry, it's much better.

Check out our latest analysis for Tederic Machinery

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you're interested in investigating Tederic Machinery's past further, check out this free graph covering Tederic Machinery's past earnings, revenue and cash flow.

What Does the ROCE Trend For Tederic Machinery Tell Us?

In terms of Tederic Machinery's historical ROCE movements, the trend isn't fantastic. Around five years ago the returns on capital were 9.5%, but since then they've fallen to 6.7%. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a side note, Tederic Machinery's current liabilities have increased over the last five years to 40% of total assets, effectively distorting the ROCE to some degree. Without this increase, it's likely that ROCE would be even lower than 6.7%. Keep an eye on this ratio, because the business could encounter some new risks if this metric gets too high.

The Key Takeaway

We're a bit apprehensive about Tederic Machinery because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Investors must expect better things on the horizon though because the stock has risen 12% in the last five years. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.

If you want to know some of the risks facing Tederic Machinery we've found 4 warning signs (2 shouldn't be ignored!) 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.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com