Tootsie Roll Industries (NYSE:TR) May Have Issues Allocating Its Capital

If you're looking at a mature business that's past the growth phase, what are some of the underlying trends that pop up? More often than not, we'll see a declining return on capital employed (ROCE) and a declining amount of capital employed. This reveals that the company isn't compounding shareholder wealth because returns are falling and its net asset base is shrinking. So after glancing at the trends within Tootsie Roll Industries (NYSE:TR), we weren't too hopeful.

Understanding Return On Capital Employed (ROCE)

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 Tootsie Roll Industries is:

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

0.078 = US$72m ÷ (US$985m - US$70m) (Based on the trailing twelve months to December 2020).

Thus, Tootsie Roll Industries has an ROCE of 7.8%. Even though it's in line with the industry average of 8.4%, it's still a low return by itself.

Check out our latest analysis for Tootsie Roll Industries

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're interested in investigating Tootsie Roll Industries' past further, check out this free graph of past earnings, revenue and cash flow.

What Does the ROCE Trend For Tootsie Roll Industries Tell Us?

We are a bit worried about the trend of returns on capital at Tootsie Roll Industries. About five years ago, returns on capital were 11%, however they're now substantially lower than that as we saw above. And on the capital employed front, the business is utilizing roughly the same amount of capital as it was back then. Companies that exhibit these attributes tend to not be shrinking, but they can be mature and facing pressure on their margins from competition. So because these trends aren't typically conducive to creating a multi-bagger, we wouldn't hold our breath on Tootsie Roll Industries becoming one if things continue as they have.

In Conclusion...

All in all, the lower returns from the same amount of capital employed aren't exactly signs of a compounding machine. Despite the concerning underlying trends, the stock has actually gained 19% over the last five years, so it might be that the investors are expecting the trends to reverse. Either way, we aren't huge fans of the current trends and so with that we think you might find better investments elsewhere.

On a separate note, we've found 1 warning sign for Tootsie Roll Industries you'll probably want to know about.

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