Today we’ll look at Brenntag AG (ETR:BNR) 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. Then we’ll compare its ROCE to similar companies. Then we’ll determine how its current liabilities are affecting its ROCE.
Understanding 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. In general, businesses with a higher ROCE are usually better quality. In brief, it is a useful tool, but it is not without drawbacks. 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?
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 Brenntag:
0.12 = €679m ÷ (€7.7b – €2.0b) (Based on the trailing twelve months to December 2018.)
Therefore, Brenntag has an ROCE of 12%.
Is Brenntag’s ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. In our analysis, Brenntag’s ROCE is meaningfully higher than the 7.6% average in the Trade Distributors industry. We consider this a positive sign, because it suggests it uses capital more efficiently than similar companies. Regardless of where Brenntag sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
Remember that this metric is backwards looking – it shows what has happened in the past, and does not accurately predict the future. ROCE can be misleading for companies in cyclical industries, with returns looking impressive during the boom times, but very weak during the busts. ROCE is, after all, simply a snap shot of a single year. Since the future is so important for investors, you should check out our free report on analyst forecasts for Brenntag.
Brenntag’s Current Liabilities And Their Impact On 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 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.
Brenntag has total liabilities of €2.0b and total assets of €7.7b. Therefore its current liabilities are equivalent to approximately 26% of its total assets. Current liabilities are minimal, limiting the impact on ROCE.
What We Can Learn From Brenntag’s ROCE
This is good to see, and with a sound ROCE, Brenntag could be worth a closer look. There might be better investments than Brenntag out there, but you will have to work hard to find them . These promising businesses with rapidly growing earnings might be right up your alley.
I will like Brenntag better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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If you spot an error that warrants correction, please contact the editor at email@example.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.