Japan Foods Holding Ltd’s Stock Price Is Near A 52-Week Low: Does The Company Have A Quality Business?

Japan Foods Holding Ltd (SGX: 5OI) is one of the leading Japanese restaurant chains in Singapore. As of 30 September 2017, Japan Foods has 48 restaurants in Singapore under various brands, and 21 restaurants outside of Singapore in Malaysia, Vietnam, Hong Kong, and China. The company’s restaurant brands include Ajisen Ramen, Menya Musashi, and Osaka Ohsho.

At the current price of S$0.415, the company’s stock is just 6.4% higher than a 52-week low of S$0.390. This captured my attention and got me interested in finding out more about the company. In particular, I want to understand: Does it have a high quality business?

This question is important. If Japan Foods has a high quality business, its current low stock price could be an investment opportunity. Unfortunately, there’s no easy answer to the question. But, a simple metric can help shed some light on the question: The return on invested capital (ROIC).

A brief introduction to the ROIC

In a previous article of mine, I explained how the ROIC can be used to evaluate the quality of a business.

The simple idea behind the ROIC is that a business with a higher ROIC requires less capital to generate a profit, and it thus gives investors a higher return per dollar that is invested in the business. High-quality businesses tend to have high ROICs while the reverse is true – a low ROIC is often associated with a low-quality business.

You can see how the math works for the ROIC in the formula above.

Japan Foods’ ROIC

Here’s a table showing how Japan Foods’s ROIC looks like (I had used numbers from its fiscal year ended 31 March 2017):

Source: Japan Foods annual report

In its fiscal year ended 31 March 2017 (FY2017), Japan Foods generated a ROIC of 51.6%. This means that for every dollar of capital invested in the business, Japan Foods earned 51.5 cents in profit. The company’s ROIC of 51.6% is way above average, based on the ROICs of many other companies I have studied in the past. This suggests that Japan Foods has a very high quality business.

As investors, we also need to understand just how a company manages to generate a high ROIC. Fortunately, it’s not too difficult to understand this with Japan Foods.

Firstly, Japan Foods’ business model requires little investment in fixed assets since it doesn’t own its stores; the major fixed assets the company needs to invest in are renovation works and kitchen equipment. Secondly, its business model requires little investment in working capital such as inventory or trade receivables.

Both factors, when put together, allow Japan Foods to generate a high ROIC.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore contributor Lawrence Nga doesn’t own shares in any companies mentioned.