Does Seiko (TYO:6286) Have The Makings Of A Multi-Bagger?

What are the early trends we should look for to identify a stock that could multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Speaking of which, we noticed some great changes in Seiko's (TYO:6286) returns on capital, so let's have a look.

Return On Capital Employed (ROCE): What is it?

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 Seiko:

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

0.027 = JP¥439m ÷ (JP¥23b - JP¥7.4b) (Based on the trailing twelve months to September 2020).

So, Seiko has an ROCE of 2.7%. Ultimately, that's a low return and it under-performs the Machinery industry average of 6.8%.

Check out our latest analysis for Seiko

Historical performance is a great place to start when researching a stock so above you can see the gauge for Seiko's ROCE against it's prior returns. If you're interested in investigating Seiko's past further, check out this free graph of past earnings, revenue and cash flow.

So How Is Seiko's ROCE Trending?

While the ROCE isn't as high as some other companies out there, it's great to see it's on the up. Looking at the data, we can see that even though capital employed in the business has remained relatively flat, the ROCE generated has risen by 242% over the last five years. So it's likely that the business is now reaping the full benefits of its past investments, since the capital employed hasn't changed considerably. It's worth looking deeper into this though because while it's great that the business is more efficient, it might also mean that going forward the areas to invest internally for the organic growth are lacking.

For the record though, there was a noticeable increase in the company's current liabilities over the period, so we would attribute some of the ROCE growth to that. Effectively this means that suppliers or short-term creditors are now funding 32% of the business, which is more than it was five years ago. It's worth keeping an eye on this because as the percentage of current liabilities to total assets increases, some aspects of risk also increase.

The Key Takeaway

To bring it all together, Seiko has done well to increase the returns it's generating from its capital employed. Since the stock has only returned 31% to shareholders over the last five years, the promising fundamentals may not be recognized yet by investors. Given that, we'd look further into this stock in case it has more traits that could make it multiply in the long term.

Seiko does have some risks though, and we've spotted 2 warning signs for Seiko that you might be interested in.

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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