To avoid investing in a business that's in decline, there's a few financial metrics that can provide early indications of aging. A business that's potentially in decline often shows two trends, a return on capital employed (ROCE) that's declining, and a base of capital employed that's also declining. Basically the company is earning less on its investments and it is also reducing its total assets. So after glancing at the trends within Shoei YakuhinLtd (TYO:3537), we weren't too hopeful.
What is Return On Capital Employed (ROCE)?
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Analysts use this formula to calculate it for Shoei YakuhinLtd:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.014 = JP¥133m ÷ (JP¥15b - JP¥5.5b) (Based on the trailing twelve months to December 2020).
So, Shoei YakuhinLtd has an ROCE of 1.4%. In absolute terms, that's a low return and it also under-performs the Trade Distributors industry average of 6.3%.
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'd like to look at how Shoei YakuhinLtd has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.
What Does the ROCE Trend For Shoei YakuhinLtd Tell Us?
We are a bit worried about the trend of returns on capital at Shoei YakuhinLtd. Unfortunately the returns on capital have diminished from the 3.1% that they were earning five years ago. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Shoei YakuhinLtd becoming one if things continue as they have.
The Bottom Line
All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. And long term shareholders have watched their investments stay flat over the last five years. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.
If you'd like to know more about Shoei YakuhinLtd, we've spotted 3 warning signs, and 1 of them can't be ignored.
While Shoei YakuhinLtd 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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