Kao (TSE:4452) Will Be Hoping To Turn Its Returns On Capital Around

When it comes to investing, there are some useful financial metrics that can warn us when a business is potentially in trouble. When we see a declining return on capital employed (ROCE) in conjunction with a declining base of capital employed, that's often how a mature business shows signs of aging. This reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. So after glancing at the trends within Kao (TSE:4452), we weren't too hopeful.

Return On Capital Employed (ROCE): What Is It?

If you haven't worked with ROCE before, it measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Analysts use this formula to calculate it for Kao:

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

0.086 = JP¥110b ÷ (JP¥1.8t - JP¥473b) (Based on the trailing twelve months to September 2024).

Thus, Kao has an ROCE of 8.6%. On its own that's a low return on capital but it's in line with the industry's average returns of 8.7%.

See our latest analysis for Kao

Above you can see how the current ROCE for Kao compares to its prior returns on capital, but there's only so much you can tell from the past. If you're interested, you can view the analysts predictions in our free analyst report for Kao .

What Does the ROCE Trend For Kao Tell Us?

There is reason to be cautious about Kao, given the returns are trending downwards. About five years ago, returns on capital were 19%, however they're now substantially lower than that as we saw above. On top of that, it's worth noting that the amount of capital employed within the business has remained relatively steady. This combination can be indicative of a mature business that still has areas to deploy capital, but the returns received aren't as high due potentially to new competition or smaller margins. If these trends continue, we wouldn't expect Kao to turn into a multi-bagger.

What We Can Learn From Kao's ROCE

In summary, it's unfortunate that Kao is generating lower returns from the same amount of capital. Investors haven't taken kindly to these developments, since the stock has declined 26% from where it was five years ago. Unless there is a shift to a more positive trajectory in these metrics, we would look elsewhere.

While Kao doesn't shine too bright in this respect, it's still worth seeing if the company is trading at attractive prices. You can find that out with our FREE intrinsic value estimation for 4452 on our platform.

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.