Returns On Capital - An Important Metric For Tohoku Chemical (TYO:7446)

If you're looking for a multi-bagger, there's a few things to keep an eye out for. Firstly, we'd want to identify a growing return on capital employed (ROCE) and then alongside that, an ever-increasing base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. With that in mind, we've noticed some promising trends at Tohoku Chemical (TYO:7446) so let's look a bit deeper.

Understanding Return On Capital Employed (ROCE)

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. To calculate this metric for Tohoku Chemical, this is the formula:

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

0.054 = JP¥361m ÷ (JP¥15b - JP¥8.0b) (Based on the trailing twelve months to September 2020).

Therefore, Tohoku Chemical has an ROCE of 5.4%. In absolute terms, that's a low return but it's around the Trade Distributors industry average of 6.3%.

Check out our latest analysis for Tohoku Chemical

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 Tohoku Chemical has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

How Are Returns Trending?

Tohoku Chemical's ROCE growth is quite impressive. The figures show that over the last five years, ROCE has grown 49% whilst employing roughly the same amount of capital. 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.

On a side note, Tohoku Chemical's current liabilities are still rather high at 55% of total assets. This can bring about some risks because the company is basically operating with a rather large reliance on its suppliers or other sorts of short-term creditors. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Key Takeaway

To bring it all together, Tohoku Chemical has done well to increase the returns it's generating from its capital employed. Considering the stock has delivered 35% to its stockholders over the last five years, it may be fair to think that investors aren't fully aware of the promising trends yet. So exploring more about this stock could uncover a good opportunity, if the valuation and other metrics stack up.

Like most companies, Tohoku Chemical does come with some risks, and we've found 3 warning signs that you should be aware of.

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.

If you’re looking to trade Tohoku Chemical, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

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