Today we’ll look at Corby Spirit and Wine Limited (TSE:CSW.A) and reflect on its potential as an investment. To be precise, we’ll consider its Return On Capital Employed (ROCE), as that will inform our view of the quality of the business.
First up, we’ll look at what ROCE is and how we calculate it. Second, we’ll look at its ROCE compared to similar companies. Finally, we’ll look at how its current liabilities affect 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. All else being equal, a better business will have a higher ROCE. Ultimately, it is a useful but imperfect metric. 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 Corby Spirit and Wine:
0.18 = CA$35m ÷ (CA$225m – CA$34m) (Based on the trailing twelve months to December 2019.)
Therefore, Corby Spirit and Wine has an ROCE of 18%.
Does Corby Spirit and Wine Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. Corby Spirit and Wine’s ROCE appears to be substantially greater than the 11% average in the Beverage industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Regardless of where Corby Spirit and Wine sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
You can see in the image below how Corby Spirit and Wine’s ROCE compares to its industry. Click to see more on past growth.
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 only a point-in-time measure. If Corby Spirit and Wine is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
What Are Current Liabilities, And How Do They Affect Corby Spirit and Wine’s ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. Due to the way the ROCE equation works, having large bills due in the near term can make it look as though a company has less capital employed, and thus a higher ROCE than usual. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Corby Spirit and Wine has current liabilities of CA$34m and total assets of CA$225m. Therefore its current liabilities are equivalent to approximately 15% of its total assets. A fairly low level of current liabilities is not influencing the ROCE too much.
Our Take On Corby Spirit and Wine’s ROCE
With that in mind, Corby Spirit and Wine’s ROCE appears pretty good. Corby Spirit and Wine 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).
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.
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