Returns At Arata (TSE:2733) Are On The Way Up

To find a multi-bagger stock, what are the underlying trends we should look for in a business? 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. Basically this means that a company has profitable initiatives that it can continue to reinvest in, which is a trait of a compounding machine. With that in mind, we've noticed some promising trends at Arata (TSE:2733) so let's look a bit deeper.

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. Analysts use this formula to calculate it for Arata:

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

0.099 = JP¥15b ÷ (JP¥317b - JP¥171b) (Based on the trailing twelve months to March 2024).

Therefore, Arata has an ROCE of 9.9%. In absolute terms, that's a low return, but it's much better than the Retail Distributors industry average of 7.6%.

See our latest analysis for Arata

In the above chart we have measured Arata'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 Arata .

What The Trend Of ROCE Can Tell Us

We're glad to see that ROCE is heading in the right direction, even if it is still low at the moment. The numbers show that in the last five years, the returns generated on capital employed have grown considerably to 9.9%. The company is effectively making more money per dollar of capital used, and it's worth noting that the amount of capital has increased too, by 29%. So we're very much inspired by what we're seeing at Arata thanks to its ability to profitably reinvest capital.

Another thing to note, Arata has a high ratio of current liabilities to total assets of 54%. This effectively means that suppliers (or short-term creditors) are funding a large portion of the business, so just be aware that this can introduce some elements of risk. Ideally we'd like to see this reduce as that would mean fewer obligations bearing risks.

The Bottom Line On Arata's ROCE

To sum it up, Arata has proven it can reinvest in the business and generate higher returns on that capital employed, which is terrific. Since the stock has returned a staggering 110% to shareholders over the last five years, it looks like investors are recognizing these changes. With that being said, we still think the promising fundamentals mean the company deserves some further due diligence.

One more thing to note, we've identified 1 warning sign with Arata and understanding this should be part of your investment process.

While Arata isn't earning the highest return, check out this free list of companies that are earning high returns on equity with solid balance sheets.

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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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com