Does Super Tool's (TYO:5990) Returns On Capital Reflect Well On The Business?

When we're researching a company, it's sometimes hard to find the warning signs, but there are some financial metrics that can help spot trouble early. When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that's often how a mature business shows signs of aging. This indicates the company is producing less profit from its investments and its total assets are decreasing. On that note, looking into Super Tool (TYO:5990), we weren't too upbeat about how things were going.

Understanding Return On Capital Employed (ROCE)

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 Super Tool:

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

0.053 = JP¥579m ÷ (JP¥13b - JP¥2.5b) (Based on the trailing twelve months to December 2020).

So, Super Tool has an ROCE of 5.3%. In absolute terms, that's a low return and it also under-performs the Machinery industry average of 6.7%.

See our latest analysis for Super Tool

Historical performance is a great place to start when researching a stock so above you can see the gauge for Super Tool's ROCE against it's prior returns. If you'd like to look at how Super Tool has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

There is reason to be cautious about Super Tool, given the returns are trending downwards. Unfortunately the returns on capital have diminished from the 9.3% that they were earning five years ago. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Super Tool becoming one if things continue as they have.

The Bottom Line On Super Tool's ROCE

In the end, the trend of lower returns on the same amount of capital isn't typically an indication that we're looking at a growth stock. Despite the concerning underlying trends, the stock has actually gained 30% over the last five years, so it might be that the investors are expecting the trends to reverse. 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 Super Tool we've found 3 warning signs (1 is a bit concerning!) that you should be aware of before investing here.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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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