Returns On Capital At Hokko Chemical Industry (TSE:4992) Paint A Concerning Picture

Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. If you see this, it typically means it's a company with a great business model and plenty of profitable reinvestment opportunities. Although, when we looked at Hokko Chemical Industry (TSE:4992), it didn't seem to tick all of these boxes.

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 Hokko Chemical Industry, this is the formula:

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

0.063 = JP¥4.1b ÷ (JP¥83b - JP¥18b) (Based on the trailing twelve months to May 2024).

So, Hokko Chemical Industry has an ROCE of 6.3%. In absolute terms, that's a low return but it's around the Chemicals industry average of 6.8%.

See our latest analysis for Hokko Chemical Industry

In the above chart we have measured Hokko Chemical Industry's prior ROCE against its prior performance, but the future is arguably more important. If you're interested, you can view the analysts predictions in our free analyst report for Hokko Chemical Industry .

The Trend Of ROCE

When we looked at the ROCE trend at Hokko Chemical Industry, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 6.3% from 10% five years ago. Meanwhile, the business is utilizing more capital but this hasn't moved the needle much in terms of sales in the past 12 months, so this could reflect longer term investments. It may take some time before the company starts to see any change in earnings from these investments.

On a side note, Hokko Chemical Industry has done well to pay down its current liabilities to 21% of total assets. So we could link some of this to the decrease in ROCE. Effectively this means their suppliers or short-term creditors are funding less of the business, which reduces some elements of risk. Some would claim this reduces the business' efficiency at generating ROCE since it is now funding more of the operations with its own money.

What We Can Learn From Hokko Chemical Industry's ROCE

Bringing it all together, while we're somewhat encouraged by Hokko Chemical Industry's reinvestment in its own business, we're aware that returns are shrinking. Yet to long term shareholders the stock has gifted them an incredible 184% return in the last five years, so the market appears to be rosy about its future. Ultimately, if the underlying trends persist, we wouldn't hold our breath on it being a multi-bagger going forward.

If you want to continue researching Hokko Chemical Industry, you might be interested to know about the 2 warning signs that our analysis has discovered.

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.