Investors Could Be Concerned With Toyo Construction's (TSE:1890) Returns On Capital

If we want to find a potential multi-bagger, often there are underlying trends that can provide clues. Typically, we'll want to notice a trend of growing return on capital employed (ROCE) and alongside that, an expanding base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. However, after investigating Toyo Construction (TSE:1890), we don't think it's current trends fit the mold of a multi-bagger.

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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. The formula for this calculation on Toyo Construction is:

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

0.097 = JP¥9.0b ÷ (JP¥160b - JP¥67b) (Based on the trailing twelve months to December 2024).

Therefore, Toyo Construction has an ROCE of 9.7%. In absolute terms, that's a low return but it's around the Construction industry average of 8.9%.

View our latest analysis for Toyo Construction

Above you can see how the current ROCE for Toyo Construction compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like, you can check out the forecasts from the analysts covering Toyo Construction for free.

So How Is Toyo Construction's ROCE Trending?

When we looked at the ROCE trend at Toyo Construction, we didn't gain much confidence. To be more specific, ROCE has fallen from 15% over the last five years. And considering revenue has dropped while employing more capital, we'd be cautious. This could mean that the business is losing its competitive advantage or market share, because while more money is being put into ventures, it's actually producing a lower return - "less bang for their buck" per se.

On a side note, Toyo Construction's current liabilities are still rather high at 42% of total assets. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

What We Can Learn From Toyo Construction's ROCE

We're a bit apprehensive about Toyo Construction because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Since the stock has skyrocketed 256% over the last five years, it looks like investors have high expectations of the stock. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

On a separate note, we've found 2 warning signs for Toyo Construction you'll probably want to know about.

While Toyo Construction 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.