Finding a business that has the potential to grow substantially is not easy, but it is possible if we look at a few key financial metrics. In a perfect world, we'd like to see a company investing more capital into its business and ideally the returns earned from that capital are also increasing. This shows us that it's a compounding machine, able to continually reinvest its earnings back into the business and generate higher returns. Looking at IDP Education (ASX:IEL), it does have a high ROCE right now, but lets see how returns are trending.
What Is Return On Capital Employed (ROCE)?
Just to clarify if you're unsure, ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. To calculate this metric for IDP Education, this is the formula:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets - Current Liabilities)
0.23 = AU$203m ÷ (AU$1.1b - AU$260m) (Based on the trailing twelve months to December 2022).
Therefore, IDP Education has an ROCE of 23%. That's a fantastic return and not only that, it outpaces the average of 8.6% earned by companies in a similar industry.
Check out our latest analysis for IDP Education
Above you can see how the current ROCE for IDP Education compares to its prior returns on capital, but there's only so much you can tell from the past. If you'd like to see what analysts are forecasting going forward, you should check out our free report for IDP Education.
SWOT Analysis for IDP Education
- Earnings growth over the past year exceeded the industry.
- Debt is not viewed as a risk.
- Dividend is low compared to the top 25% of dividend payers in the Consumer Services market.
- Expensive based on P/E ratio and estimated fair value.
- Annual earnings are forecast to grow faster than the Australian market.
- Dividends are not covered by cash flow.
- Revenue is forecast to grow slower than 20% per year.
The Trend Of ROCE
In terms of IDP Education's historical ROCE movements, the trend isn't fantastic. To be more specific, while the ROCE is still high, it's fallen from 44% where it was five years ago. Although, given both revenue and the amount of assets employed in the business have increased, it could suggest the company is investing in growth, and the extra capital has led to a short-term reduction in ROCE. And if the increased capital generates additional returns, the business, and thus shareholders, will benefit in the long run.
On a side note, IDP Education has done well to pay down its current liabilities to 23% of total assets. That could partly explain why the ROCE has dropped. What's more, this can reduce some aspects of risk to the business because now the company's suppliers or short-term creditors are funding less of its operations. Since the business is basically funding more of its operations with it's own money, you could argue this has made the business less efficient at generating ROCE.
The Key Takeaway
In summary, despite lower returns in the short term, we're encouraged to see that IDP Education is reinvesting for growth and has higher sales as a result. And long term investors must be optimistic going forward because the stock has returned a huge 218% to shareholders in the last five years. So should these growth trends continue, we'd be optimistic on the stock going forward.
If you're still interested in IDP Education it's worth checking out our FREE intrinsic value approximation to see if it's trading at an attractive price in other respects.
If you'd like to see other companies earning high returns, check out our free list of companies earning high returns with solid balance sheets here.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
About ASX:IEL
IDP Education
Engages in the placement of students into education institutions in Australia, the United Kingdom, the United States, Canada, New Zealand, and Ireland.
Excellent balance sheet with reasonable growth potential.
