Today we’ll evaluate Bassett Furniture Industries, Incorporated (NASDAQ:BSET) to determine whether it could have potential as an investment idea. 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 up, we’ll look at what ROCE is and how we calculate it. Next, we’ll compare it to others in its industry. Then we’ll determine how its current liabilities are affecting its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE measures the amount of pre-tax profits a company can generate from the capital employed in its business. Generally speaking a higher ROCE is better. Ultimately, it is a useful but imperfect metric. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.
How Do You Calculate Return On Capital Employed?
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 Bassett Furniture Industries:
0.043 = US$9.1m ÷ (US$281m – US$67m) (Based on the trailing twelve months to June 2019.)
So, Bassett Furniture Industries has an ROCE of 4.3%.
Is Bassett Furniture Industries’s ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. We can see Bassett Furniture Industries’s ROCE is meaningfully below the Consumer Durables industry average of 12%. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Putting aside Bassett Furniture Industries’s performance relative to its industry, its ROCE in absolute terms is poor – considering the risk of owning stocks compared to government bonds. There are potentially more appealing investments elsewhere.
Bassett Furniture Industries’s current ROCE of 4.3% is lower than its ROCE in the past, which was 14%, 3 years ago. Therefore we wonder if the company is facing new headwinds. Take a look at the image below to see how Bassett Furniture Industries’s past growth compares to the average in its industry.
Remember that this metric is backwards looking – it shows what has happened in the past, and does not accurately predict the future. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Bassett Furniture Industries.
What Are Current Liabilities, And How Do They Affect Bassett Furniture Industries’s ROCE?
Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they need to be paid within 12 months. Due to the way ROCE is calculated, a high level of current liabilities makes a company look as though it has less capital employed, and thus can (sometimes unfairly) boost the ROCE. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Bassett Furniture Industries has total liabilities of US$67m and total assets of US$281m. Therefore its current liabilities are equivalent to approximately 24% of its total assets. This is not a high level of current liabilities, which would not boost the ROCE by much.
Our Take On Bassett Furniture Industries’s ROCE
That’s not a bad thing, however Bassett Furniture Industries has a weak ROCE and may not be an attractive investment. But note: make sure you look for a great company, not just the first idea you come across. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.