Capital Allocation Trends At Sumco (TSE:3436) Aren't Ideal

To find a multi-bagger stock, what are the underlying trends we should look for in a business? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base of capital employed. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Although, when we looked at Sumco (TSE:3436), it didn't seem to tick all of these boxes.

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 Sumco is:

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

0.047 = JP¥46b ÷ (JP¥1.2t - JP¥200b) (Based on the trailing twelve months to June 2024).

Therefore, Sumco has an ROCE of 4.7%. In absolute terms, that's a low return and it also under-performs the Semiconductor industry average of 14%.

See our latest analysis for Sumco

Above you can see how the current ROCE for Sumco 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 Sumco .

So How Is Sumco's ROCE Trending?

When we looked at the ROCE trend at Sumco, we didn't gain much confidence. Over the last five years, returns on capital have decreased to 4.7% from 16% 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.

The Bottom Line

We're a bit apprehensive about Sumco because despite more capital being deployed in the business, returns on that capital and sales have both fallen. Investors must expect better things on the horizon though because the stock has risen 20% in the last five years. Regardless, we don't like the trends as they are and if they persist, we think you might find better investments elsewhere.

On a final note, we found 4 warning signs for Sumco (2 are potentially serious) you should be aware of.

While Sumco may not currently earn the highest returns, we've compiled a list of companies that currently earn more than 25% return on equity. Check out this free list here.

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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.