Today we’ll look at Tomra Systems ASA (OB:TOM) and reflect on its potential as an investment. In particular, we’ll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its business.
First up, we’ll look at what ROCE is and how we calculate it. Then we’ll compare its ROCE to similar companies. Finally, we’ll look at how its current liabilities affect its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. All else being equal, a better business will have a higher ROCE. Overall, it is a valuable metric that has its flaws. 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 Tomra Systems:
0.13 = kr1.2b ÷ (kr11b – kr1.4b) (Based on the trailing twelve months to June 2019.)
So, Tomra Systems has an ROCE of 13%.
Does Tomra Systems Have A Good ROCE?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that Tomra Systems’s ROCE is meaningfully better than the 9.6% average in the Commercial Services industry. I think that’s good to see, since it implies the company is better than other companies at making the most of its capital. Separate from Tomra Systems’s performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
We can see that , Tomra Systems currently has an ROCE of 13%, less than the 18% it reported 3 years ago. Therefore we wonder if the company is facing new headwinds.
When considering this metric, keep in mind that it is backwards looking, and 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.
How Tomra Systems’s Current Liabilities Impact Its ROCE
Current liabilities include invoices, such as supplier payments, short-term debt, or a tax bill, 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.
Tomra Systems has total assets of kr11b and current liabilities of kr1.4b. Therefore its current liabilities are equivalent to approximately 13% of its total assets. Low current liabilities are not boosting the ROCE too much.
Our Take On Tomra Systems’s ROCE
With that in mind, Tomra Systems’s ROCE appears pretty good. There might be better investments than Tomra Systems 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.
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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.