Why Ashley Services Group Limited’s (ASX:ASH) Return On Capital Employed Is Impressive

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Today we are going to look at Ashley Services Group Limited (ASX:ASH) to see whether it might be an attractive investment prospect. 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, we'll go over how we calculate ROCE. Then we'll compare its ROCE to similar companies. And finally, we'll look at how its current liabilities are impacting its ROCE.

What is Return On Capital Employed (ROCE)?

ROCE is a measure of a company's yearly pre-tax profit (its return), relative to the capital employed in the business. All else being equal, a better business will have a higher ROCE. Overall, it is a valuable metric that has its flaws. 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?

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 Ashley Services Group:

0.30 = AU$8.0m ÷ (AU$45m - AU$18m) (Based on the trailing twelve months to December 2018.)

Therefore, Ashley Services Group has an ROCE of 30%.

Check out our latest analysis for Ashley Services Group

Is Ashley Services Group's ROCE Good?

When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that Ashley Services Group's ROCE is meaningfully better than the 19% average in the Professional 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. Setting aside the comparison to its industry for a moment, Ashley Services Group's ROCE in absolute terms currently looks quite high.

Our data shows that Ashley Services Group currently has an ROCE of 30%, compared to its ROCE of 0.03% 3 years ago. This makes us think about whether the company has been reinvesting shrewdly.

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. ROCE is only a point-in-time measure. If Ashley Services Group is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.

How Ashley Services Group'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. 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 counter this, investors can check if a company has high current liabilities relative to total assets.

Ashley Services Group has total liabilities of AU$18m and total assets of AU$45m. As a result, its current liabilities are equal to approximately 41% of its total assets. A medium level of current liabilities boosts Ashley Services Group's ROCE somewhat.

Our Take On Ashley Services Group's ROCE

Despite this, it reports a high ROCE, and may be worth investigating further. Ashley Services Group shapes up well under this analysis, but it is far from the only business delivering excellent numbers . You might also want to check this free collection of companies delivering excellent earnings growth.

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 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. Thank you for reading.