eMnet Japan.co.ltd (TSE:7036) May Have Issues Allocating Its Capital

If we want to find a stock that could multiply over the long term, what are the underlying trends we should look for? Amongst other things, we'll want to see two things; firstly, a growing return on capital employed (ROCE) and secondly, an expansion in the company's amount 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 eMnet Japan.co.ltd (TSE:7036) we aren't jumping out of our chairs at how returns are trending, but let's have a deeper look.

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. The formula for this calculation on eMnet Japan.co.ltd is:

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

0.087 = JP¥137m ÷ (JP¥2.9b - JP¥1.3b) (Based on the trailing twelve months to September 2023).

Therefore, eMnet Japan.co.ltd has an ROCE of 8.7%. On its own, that's a low figure but it's around the 10% average generated by the Media industry.

Check out our latest analysis for eMnet Japan.co.ltd

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 eMnet Japan.co.ltd has performed in the past in other metrics, you can view this free graph of eMnet Japan.co.ltd's past earnings, revenue and cash flow.

What Does the ROCE Trend For eMnet Japan.co.ltd Tell Us?

On the surface, the trend of ROCE at eMnet Japan.co.ltd doesn't inspire confidence. Over the last five years, returns on capital have decreased to 8.7% from 29% five years ago. And considering revenue has dropped while employing more capital, we'd be cautious. If this were to continue, you might be looking at a company that is trying to reinvest for growth but is actually losing market share since sales haven't increased.

On a side note, eMnet Japan.co.ltd has done well to pay down its current liabilities to 46% 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. Keep in mind 46% is still pretty high, so those risks are still somewhat prevalent.

The Key Takeaway

We're a bit apprehensive about eMnet Japan.co.ltd because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Long term shareholders who've owned the stock over the last five years have experienced a 12% depreciation in their investment, so it appears the market might not like these trends either. With underlying trends that aren't great in these areas, we'd consider looking elsewhere.

If you'd like to know more about eMnet Japan.co.ltd, we've spotted 3 warning signs, and 1 of them doesn't sit too well with us.

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.