If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? One common approach is to try and find a company with returns on capital employed (ROCE) that are increasing, in conjunction with a growing amount 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. In light of that, when we looked at Menicon (TSE:7780) and its ROCE trend, we weren't exactly thrilled.
Understanding Return On Capital Employed (ROCE)
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 Menicon, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.058 = JP¥9.5b ÷ (JP¥211b - JP¥48b) (Based on the trailing twelve months to December 2024).
Therefore, Menicon has an ROCE of 5.8%. In absolute terms, that's a low return and it also under-performs the Medical Equipment industry average of 11%.
See our latest analysis for Menicon
In the above chart we have measured Menicon's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Menicon for free.
What Does the ROCE Trend For Menicon Tell Us?
On the surface, the trend of ROCE at Menicon doesn't inspire confidence. Around five years ago the returns on capital were 11%, but since then they've fallen to 5.8%. 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's worth keeping an eye on the company's earnings from here on to see if these investments do end up contributing to the bottom line.
The Bottom Line
Bringing it all together, while we're somewhat encouraged by Menicon's reinvestment in its own business, we're aware that returns are shrinking. And investors appear hesitant that the trends will pick up because the stock has fallen 47% in the last five years. Therefore based on the analysis done in this article, we don't think Menicon has the makings of a multi-bagger.
On a separate note, we've found 1 warning sign for Menicon you'll probably want to know about.
If you want to search for solid companies with great earnings, check out this free list of companies with good balance sheets and impressive 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.