Returns On Capital At Tokyo Electron (TSE:8035) Paint A Concerning Picture

Did you know there are some financial metrics that can provide clues of a potential multi-bagger? Firstly, we'll want to see a proven return on capital employed (ROCE) that is increasing, and secondly, an expanding base 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. So when we looked at Tokyo Electron (TSE:8035), they do have a high ROCE, but we weren't exactly elated from how returns are trending.

Return On Capital Employed (ROCE): What Is It?

For those who don't know, ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. The formula for this calculation on Tokyo Electron is:

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

0.28 = JP¥464b ÷ (JP¥2.2t - JP¥557b) (Based on the trailing twelve months to December 2023).

Thus, Tokyo Electron has an ROCE of 28%. That's a fantastic return and not only that, it outpaces the average of 12% earned by companies in a similar industry.

View our latest analysis for Tokyo Electron

In the above chart we have measured Tokyo Electron's prior ROCE against its prior performance, but the future is arguably more important. If you'd like, you can check out the forecasts from the analysts covering Tokyo Electron for free.

How Are Returns Trending?

When we looked at the ROCE trend at Tokyo Electron, we didn't gain much confidence. While it's comforting that the ROCE is high, five years ago it was 38%. Given the business is employing more capital while revenue has slipped, this is a bit concerning. 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

In summary, we're somewhat concerned by Tokyo Electron's diminishing returns on increasing amounts of capital. The market must be rosy on the stock's future because even though the underlying trends aren't too encouraging, the stock has soared 648%. Regardless, we don't feel too comfortable with the fundamentals so we'd be steering clear of this stock for now.

One more thing, we've spotted 1 warning sign facing Tokyo Electron that you might find interesting.

High returns are a key ingredient to strong performance, so check out our free list ofstocks 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.