Today we’ll evaluate Skipper Limited (NSE:SKIPPER) to determine whether it could have potential as an investment idea. 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. Next, we’ll compare it to others in its industry. Last but not least, we’ll look at what impact its current liabilities have on 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.
So, How Do We Calculate ROCE?
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 Skipper:
0.17 = ₹1.4b ÷ (₹17b – ₹8.4b) (Based on the trailing twelve months to September 2019.)
Therefore, Skipper has an ROCE of 17%.
Is Skipper’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. Using our data, we find that Skipper’s ROCE is meaningfully better than the 14% average in the Construction 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. Regardless of where Skipper sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
Skipper’s current ROCE of 17% is lower than 3 years ago, when the company reported a 38% ROCE. So investors might consider if it has had issues recently. You can click on the image below to see (in greater detail) how Skipper’s past growth compares to other companies.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. 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 Skipper’s Current Liabilities Impact 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.
Skipper has total assets of ₹17b and current liabilities of ₹8.4b. Therefore its current liabilities are equivalent to approximately 50% of its total assets. With this level of current liabilities, Skipper’s ROCE is boosted somewhat.
The Bottom Line On Skipper’s ROCE
While its ROCE looks good, it’s worth remembering that the current liabilities are making the business look better. Skipper 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.
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