Today we are going to look at Alimentation Couche-Tard Inc. (TSE:ATD.B) to see whether it might be an attractive investment prospect. To be precise, we’ll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
First, we’ll go over how we calculate ROCE. Second, we’ll look at its ROCE compared to similar companies. Then we’ll determine how its current liabilities are affecting its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. All else being equal, a better business will have a higher ROCE. In brief, it is a useful tool, but it is not without drawbacks. Renowned investment researcher Michael Mauboussin has suggested that a high ROCE can indicate that ‘one dollar invested in the company generates value of more than one dollar’.
So, How Do We Calculate ROCE?
Analysts use this formula to calculate return on capital employed:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
Or for Alimentation Couche-Tard:
0.15 = US$2.5b ÷ (US$23b – US$5.6b) (Based on the trailing twelve months to April 2019.)
So, Alimentation Couche-Tard has an ROCE of 15%.
Does Alimentation Couche-Tard Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. In our analysis, Alimentation Couche-Tard’s ROCE is meaningfully higher than the 9.2% average in the Consumer Retailing industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Independently of how Alimentation Couche-Tard compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
It is important to remember that ROCE shows past performance, and is not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
Do Alimentation Couche-Tard’s Current Liabilities Skew Its ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that need to be paid within 12 months. The ROCE equation subtracts current liabilities from capital employed, so a company with a lot of current liabilities appears to have less capital employed, and a higher ROCE than otherwise. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Alimentation Couche-Tard has total assets of US$23b and current liabilities of US$5.6b. As a result, its current liabilities are equal to approximately 25% of its total assets. A fairly low level of current liabilities is not influencing the ROCE too much.
What We Can Learn From Alimentation Couche-Tard’s ROCE
This is good to see, and with a sound ROCE, Alimentation Couche-Tard could be worth a closer look. Alimentation Couche-Tard looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
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If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.