Should You Like SeaLink Travel Group Limited’s (ASX:SLK) High Return On Capital Employed?

Today we’ll look at SeaLink Travel Group Limited (ASX:SLK) and reflect on its potential as an investment. Specifically, we’ll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires.

First, we’ll go over how we calculate ROCE. Next, we’ll compare it to others in its industry. Then we’ll determine how its current liabilities are affecting its ROCE.

Understanding Return On Capital Employed (ROCE)

ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested 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?

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 SeaLink Travel Group:

0.12 = AU$33m ÷ (AU$313m – AU$36m) (Based on the trailing twelve months to December 2018.)

Therefore, SeaLink Travel Group has an ROCE of 12%.

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Is SeaLink Travel Group’s ROCE Good?

One way to assess ROCE is to compare similar companies. In our analysis, SeaLink Travel Group’s ROCE is meaningfully higher than the 9.9% average in the Hospitality industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Regardless of where SeaLink Travel Group sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.

ASX:SLK Past Revenue and Net Income, May 27th 2019
ASX:SLK Past Revenue and Net Income, May 27th 2019

Remember that this metric is backwards looking – it shows what has happened in the past, and does not accurately 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. ROCE is, after all, simply a snap shot of a single year. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for SeaLink Travel Group.

What Are Current Liabilities, And How Do They Affect SeaLink Travel Group’s ROCE?

Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills 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.

SeaLink Travel Group has total liabilities of AU$36m and total assets of AU$313m. As a result, its current liabilities are equal to approximately 11% of its total assets. A fairly low level of current liabilities is not influencing the ROCE too much.

The Bottom Line On SeaLink Travel Group’s ROCE

This is good to see, and with a sound ROCE, SeaLink Travel Group could be worth a closer look. SeaLink Travel Group 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.

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.