Hoden Seimitsu Kako Kenkyusho's (TSE:6469) Returns On Capital Tell Us There Is Reason To Feel Uneasy

When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. Businesses in decline often have two underlying trends, firstly, a declining return on capital employed (ROCE) and a declining base of capital employed. This reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. And from a first read, things don't look too good at Hoden Seimitsu Kako Kenkyusho (TSE:6469), so let's see why.

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 Hoden Seimitsu Kako Kenkyusho is:

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

0.02 = JP¥230m ÷ (JP¥18b - JP¥6.7b) (Based on the trailing twelve months to February 2024).

Therefore, Hoden Seimitsu Kako Kenkyusho has an ROCE of 2.0%. In absolute terms, that's a low return and it also under-performs the Machinery industry average of 8.0%.

View our latest analysis for Hoden Seimitsu Kako Kenkyusho

Historical performance is a great place to start when researching a stock so above you can see the gauge for Hoden Seimitsu Kako Kenkyusho's ROCE against it's prior returns. If you'd like to look at how Hoden Seimitsu Kako Kenkyusho has performed in the past in other metrics, you can view this free graph of Hoden Seimitsu Kako Kenkyusho's past earnings, revenue and cash flow.

How Are Returns Trending?

There is reason to be cautious about Hoden Seimitsu Kako Kenkyusho, given the returns are trending downwards. About five years ago, returns on capital were 8.4%, however they're now substantially lower than that as we saw above. Meanwhile, capital employed in the business has stayed roughly the flat over the period. Since returns are falling and the business has the same amount of assets employed, this can suggest it's a mature business that hasn't had much growth in the last five years. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Hoden Seimitsu Kako Kenkyusho becoming one if things continue as they have.

On a side note, Hoden Seimitsu Kako Kenkyusho's current liabilities have increased over the last five years to 37% of total assets, effectively distorting the ROCE to some degree. Without this increase, it's likely that ROCE would be even lower than 2.0%. While the ratio isn't currently too high, it's worth keeping an eye on this because if it gets particularly high, the business could then face some new elements of risk.

Our Take On Hoden Seimitsu Kako Kenkyusho's ROCE

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. But investors must be expecting an improvement of sorts because over the last five yearsthe stock has delivered a respectable 81% return. In any case, the current underlying trends don't bode well for long term performance so unless they reverse, we'd start looking elsewhere.

If you want to know some of the risks facing Hoden Seimitsu Kako Kenkyusho we've found 4 warning signs (2 shouldn't be ignored!) that you should be aware of before investing here.

While Hoden Seimitsu Kako Kenkyusho 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.

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