Here's What To Make Of Diamond Electric Holdings' (TSE:6699) Decelerating Rates Of Return

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Having said that, from a first glance at Diamond Electric Holdings (TSE:6699) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Return On Capital Employed (ROCE): What Is It?

For those that aren't sure what ROCE is, it measures the amount of pre-tax profits a company can generate from the capital employed in its business. Analysts use this formula to calculate it for Diamond Electric Holdings:

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

0.024 = JP¥644m ÷ (JP¥81b - JP¥54b) (Based on the trailing twelve months to June 2024).

So, Diamond Electric Holdings has an ROCE of 2.4%. Ultimately, that's a low return and it under-performs the Auto Components industry average of 6.3%.

View our latest analysis for Diamond Electric Holdings

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 want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Diamond Electric Holdings.

What Can We Tell From Diamond Electric Holdings' ROCE Trend?

Things have been pretty stable at Diamond Electric Holdings, with its capital employed and returns on that capital staying somewhat the same for the last five years. Businesses with these traits tend to be mature and steady operations because they're past the growth phase. So unless we see a substantial change at Diamond Electric Holdings in terms of ROCE and additional investments being made, we wouldn't hold our breath on it being a multi-bagger.

On another note, while the change in ROCE trend might not scream for attention, it's interesting that the current liabilities have actually gone up over the last five years. This is intriguing because if current liabilities hadn't increased to 66% of total assets, this reported ROCE would probably be less than2.4% because total capital employed would be higher.The 2.4% ROCE could be even lower if current liabilities weren't 66% of total assets, because the the formula would show a larger base of total capital employed. So with current liabilities at such high levels, this effectively means the likes of suppliers or short-term creditors are funding a meaningful part of the business, which in some instances can bring some risks.

What We Can Learn From Diamond Electric Holdings' ROCE

We can conclude that in regards to Diamond Electric Holdings' returns on capital employed and the trends, there isn't much change to report on. And in the last five years, the stock has given away 44% so the market doesn't look too hopeful on these trends strengthening any time soon. Therefore based on the analysis done in this article, we don't think Diamond Electric Holdings has the makings of a multi-bagger.

Diamond Electric Holdings does come with some risks though, we found 3 warning signs in our investment analysis, and 2 of those make us uncomfortable...

While Diamond Electric Holdings 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.

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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.