NittoBest (TYO:2877) May Have Issues Allocating Its Capital

If you're looking at a mature business that's past the growth phase, what are some of the underlying trends that pop up? Typically, we'll see the trend of both return on capital employed (ROCE) declining and this usually coincides with a decreasing amount of capital employed. This indicates to us that the business is not only shrinking the size of its net assets, but its returns are falling as well. Having said that, after a brief look, NittoBest (TYO:2877) we aren't filled with optimism, but let's investigate further.

What is Return On Capital Employed (ROCE)?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. The formula for this calculation on NittoBest is:

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

0.031 = JP¥729m ÷ (JP¥41b - JP¥18b) (Based on the trailing twelve months to December 2020).

Thus, NittoBest has an ROCE of 3.1%. In absolute terms, that's a low return and it also under-performs the Food industry average of 7.2%.

Check out our latest analysis for NittoBest

While the past is not representative of the future, it can be helpful to know how a company has performed historically, which is why we have this chart above. If you'd like to look at how NittoBest has performed in the past in other metrics, you can view this free graph of past earnings, revenue and cash flow.

What The Trend Of ROCE Can Tell Us

There is reason to be cautious about NittoBest, given the returns are trending downwards. About five years ago, returns on capital were 5.0%, 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. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. If these trends continue, we wouldn't expect NittoBest to turn into a multi-bagger.

Another thing to note, NittoBest has a high ratio of current liabilities to total assets of 44%. 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.

In Conclusion...

In summary, it's unfortunate that NittoBest is generating lower returns from the same amount of capital. Despite the concerning underlying trends, the stock has actually gained 13% over the last five years, so it might be that the investors are expecting the trends to reverse. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

One final note, you should learn about the 3 warning signs we've spotted with NittoBest (including 1 which shouldn't be ignored) .

While NittoBest 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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