Here's What's Concerning About Sumitomo Heavy Industries' (TSE:6302) Returns On Capital

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Although, when we looked at Sumitomo Heavy Industries (TSE:6302), it didn't seem to tick all of these boxes.

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 Sumitomo Heavy Industries:

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

0.095 = JP¥74b ÷ (JP¥1.2t - JP¥416b) (Based on the trailing twelve months to December 2023).

Thus, Sumitomo Heavy Industries has an ROCE of 9.5%. In absolute terms, that's a low return but it's around the Machinery industry average of 7.9%.

See our latest analysis for Sumitomo Heavy Industries

In the above chart we have measured Sumitomo Heavy Industries' prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Sumitomo Heavy Industries .

What The Trend Of ROCE Can Tell Us

When we looked at the ROCE trend at Sumitomo Heavy Industries, we didn't gain much confidence. Around five years ago the returns on capital were 13%, but since then they've fallen to 9.5%. 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 may take some time before the company starts to see any change in earnings from these investments.

The Bottom Line On Sumitomo Heavy Industries' ROCE

In summary, Sumitomo Heavy Industries is reinvesting funds back into the business for growth but unfortunately it looks like sales haven't increased much just yet. And with the stock having returned a mere 40% in the last five years to shareholders, you could argue that they're aware of these lackluster trends. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.

If you'd like to know about the risks facing Sumitomo Heavy Industries, we've discovered 2 warning signs that you should be aware of.

While Sumitomo Heavy Industries isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.