Do Franklin Electric Co., Inc.’s (NASDAQ:FELE) Returns On Capital Employed Make The Cut?

Today we'll look at Franklin Electric Co., Inc. (NASDAQ:FELE) and reflect on its potential as an investment. Specifically, we're going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.

First, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. Finally, we'll look at how its current liabilities affect its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE measures the 'return' (pre-tax profit) a company generates from capital employed in its business. Generally speaking a higher ROCE is better. 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'.

How Do You Calculate Return On Capital Employed?

The formula for calculating the return on capital employed is:

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

Or for Franklin Electric:

0.13 = US$126m ÷ (US$1.2b - US$186m) (Based on the trailing twelve months to December 2019.)

Therefore, Franklin Electric has an ROCE of 13%.

See our latest analysis for Franklin Electric

Does Franklin Electric Have A Good ROCE?

When making comparisons between similar businesses, investors may find ROCE useful. It appears that Franklin Electric's ROCE is fairly close to the Machinery industry average of 11%. Independently of how Franklin Electric compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.

You can see in the image below how Franklin Electric's ROCE compares to its industry. Click to see more on past growth.

When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is only a point-in-time measure. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Franklin Electric.

Do Franklin Electric's Current Liabilities Skew Its ROCE?

Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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.

Franklin Electric has total assets of US$1.2b and current liabilities of US$186m. Therefore its current liabilities are equivalent to approximately 16% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.

The Bottom Line On Franklin Electric's ROCE

Overall, Franklin Electric has a decent ROCE and could be worthy of further research. There might be better investments than Franklin Electric out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.

If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.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.

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