Toda (TSE:1860) Could Be Struggling To Allocate Capital

If you're looking for a multi-bagger, there's a few things to keep an eye out for. One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount of capital employed. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. However, after investigating Toda (TSE:1860), we don't think it's current trends fit the mold of a multi-bagger.

We've discovered 3 warning signs about Toda. View them for free.

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

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. To calculate this metric for Toda, this is the formula:

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

0.039 = JP¥22b ÷ (JP¥944b - JP¥375b) (Based on the trailing twelve months to December 2024).

Therefore, Toda has an ROCE of 3.9%. In absolute terms, that's a low return and it also under-performs the Construction industry average of 8.9%.

Check out our latest analysis for Toda

In the above chart we have measured Toda's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Toda for free.

What The Trend Of ROCE Can Tell Us

In terms of Toda's historical ROCE movements, the trend isn't fantastic. Over the last five years, returns on capital have decreased to 3.9% from 10% five years ago. On the other hand, the company has been employing more capital without a corresponding improvement in sales in the last year, which could suggest these investments are longer term plays. It's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.

The Bottom Line

To conclude, we've found that Toda is reinvesting in the business, but returns have been falling. Although the market must be expecting these trends to improve because the stock has gained 72% over the last five years. However, unless these underlying trends turn more positive, we wouldn't get our hopes up too high.

One more thing: We've identified 3 warning signs with Toda (at least 1 which makes us a bit uncomfortable) , and understanding them would certainly be useful.

While Toda 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.