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Today we are going to look at Polaris Infrastructure Inc. (TSE:PIF) to see whether it might be an attractive investment prospect. 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. Then we’ll compare its ROCE to similar companies. Last but not least, we’ll look at what impact its current liabilities have on its ROCE.
What is Return On Capital Employed (ROCE)?
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. 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.’
How Do You Calculate Return On Capital Employed?
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 Polaris Infrastructure:
0.088 = US$27m ÷ (US$403m – US$20m) (Based on the trailing twelve months to September 2018.)
So, Polaris Infrastructure has an ROCE of 8.8%.
View our latest analysis for Polaris Infrastructure
Does Polaris Infrastructure Have A Good ROCE?
ROCE can be useful when making comparisons, such as between similar companies. Using our data, we find that Polaris Infrastructure’s ROCE is meaningfully better than the 4.8% average in the Renewable Energy 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 industry comparison for now, Polaris Infrastructure’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. Investors may wish to consider higher-performing investments.
In our analysis, Polaris Infrastructure’s ROCE appears to be 8.8%, compared to 3 years ago, when its ROCE was 2.8%. This makes us wonder if the company is improving.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Since the future is so important for investors, you should check out our free report on analyst forecasts for Polaris Infrastructure.
How Polaris Infrastructure’s Current Liabilities Impact Its ROCE
Liabilities, such as supplier bills and bank overdrafts, are referred to as current liabilities if they need to be paid within 12 months. 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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Polaris Infrastructure has total liabilities of US$20m and total assets of US$403m. As a result, its current liabilities are equal to approximately 4.9% of its total assets. Polaris Infrastructure reports few current liabilities, which have a negligible impact on its unremarkable ROCE.
What We Can Learn From Polaris Infrastructure’s ROCE
Based on this information, Polaris Infrastructure appears to be a mediocre business. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.