The Returns At Alpha (TSE:4760) Aren't Growing

What are the early trends we should look for to identify a stock that could 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. Put simply, these types of businesses are compounding machines, meaning they are continually reinvesting their earnings at ever-higher rates of return. Having said that, from a first glance at Alpha (TSE:4760) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

Understanding 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 Alpha is:

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

0.025 = JP¥44m ÷ (JP¥3.8b - JP¥2.1b) (Based on the trailing twelve months to May 2024).

Therefore, Alpha has an ROCE of 2.5%. In absolute terms, that's a low return and it also under-performs the Media industry average of 9.8%.

Check out our latest analysis for Alpha

Historical performance is a great place to start when researching a stock so above you can see the gauge for Alpha's ROCE against it's prior returns. If you want to delve into the historical earnings , check out these free graphs detailing revenue and cash flow performance of Alpha.

What The Trend Of ROCE Can Tell Us

Over the past five years, Alpha's ROCE has remained relatively flat while the business is using 48% less capital than before. This indicates to us that assets are being sold and thus the business is likely shrinking, which you'll remember isn't the typical ingredients for an up-and-coming multi-bagger. In addition to that, since the ROCE doesn't scream "quality" at 2.5%, it's hard to get excited about these developments.

Another point to note, we noticed the company has increased current liabilities over the last five years. This is intriguing because if current liabilities hadn't increased to 54% of total assets, this reported ROCE would probably be less than2.5% because total capital employed would be higher.The 2.5% ROCE could be even lower if current liabilities weren't 54% of total assets, because the the formula would show a larger base of total capital employed. Additionally, this high level of current liabilities isn't ideal because it means the company's suppliers (or short-term creditors) are effectively funding a large portion of the business.

In Conclusion...

It's a shame to see that Alpha is effectively shrinking in terms of its capital base. And with the stock having returned a mere 6.9% in the last five years to shareholders, you could argue that they're aware of these lackluster trends. Therefore, if you're looking for a multi-bagger, we'd propose looking at other options.

If you'd like to know about the risks facing Alpha, we've discovered 3 warning signs that you should be aware of.

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.