Capital Allocation Trends At TWOSTONE&Sons (TSE:7352) Aren't Ideal

What trends should we look for it we want to identify stocks that can multiply in value over the long term? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. Ultimately, this demonstrates that it's a business that is reinvesting profits at increasing rates of return. Having said that, from a first glance at TWOSTONE&Sons (TSE:7352) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. To calculate this metric for TWOSTONE&Sons, this is the formula:

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

0.042 = JP¥178m ÷ (JP¥6.6b - JP¥2.4b) (Based on the trailing twelve months to May 2024).

Thus, TWOSTONE&Sons has an ROCE of 4.2%. Ultimately, that's a low return and it under-performs the Professional Services industry average of 15%.

View our latest analysis for TWOSTONE&Sons

In the above chart we have measured TWOSTONE&Sons' prior ROCE against its prior performance, but the future is arguably more important. If you'd like to see what analysts are forecasting going forward, you should check out our free analyst report for TWOSTONE&Sons .

The Trend Of ROCE

Unfortunately, the trend isn't great with ROCE falling from 13% two years ago, while capital employed has grown 200%. Usually this isn't ideal, but given TWOSTONE&Sons conducted a capital raising before their most recent earnings announcement, that would've likely contributed, at least partially, to the increased capital employed figure. TWOSTONE&Sons probably hasn't received a full year of earnings yet from the new funds it raised, so these figures should be taken with a grain of salt.

In Conclusion...

In summary, despite lower returns in the short term, we're encouraged to see that TWOSTONE&Sons is reinvesting for growth and has higher sales as a result. And the stock has done incredibly well with a 282% return over the last three years, so long term investors are no doubt ecstatic with that result. So should these growth trends continue, we'd be optimistic on the stock going forward.

Since virtually every company faces some risks, it's worth knowing what they are, and we've spotted 4 warning signs for TWOSTONE&Sons (of which 1 is concerning!) that you should know about.

For those who like to invest in solid companies, check out this free list of companies with solid balance sheets and high returns on equity.

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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.