Today we are going to look at SBF AG (FRA:CY1K) to see whether it might be an attractive investment prospect. In particular, we’ll consider its Return On Capital Employed (ROCE), as that can give us insight into how profitably the company is able to employ capital in its business.
First of all, we’ll work out how to calculate ROCE. Next, we’ll compare it to others in its industry. Finally, we’ll look at how its current liabilities affect its ROCE.
Return On Capital Employed (ROCE): What is it?
ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. In general, businesses with a higher ROCE are usually better quality. Overall, it is a valuable metric that has its flaws. 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?
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 SBF:
0.11 = €1.6m ÷ (€16m – €1.2m) (Based on the trailing twelve months to December 2018.)
Therefore, SBF has an ROCE of 11%.
Is SBF’s ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. In our analysis, SBF’s ROCE is meaningfully higher than the 8.7% average in the Electrical 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. Regardless of where SBF sits next to its industry, its ROCE in absolute terms appears satisfactory, and this company could be worth a closer look.
SBF reported an ROCE of 11% — better than 3 years ago, when the company didn’t make a profit. That suggests the business has returned to profitability. The image below shows how SBF’s ROCE compares to its industry.
When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
Do SBF’s Current Liabilities Skew 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 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.
SBF has total assets of €16m and current liabilities of €1.2m. Therefore its current liabilities are equivalent to approximately 7.8% of its total assets. With low current liabilities, SBF’s decent ROCE looks that much more respectable.
The Bottom Line On SBF’s ROCE
If SBF can continue reinvesting in its business, it could be an attractive prospect. SBF 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.
For those who like to find winning investments this free list of growing companies with recent insider purchasing, could be just the ticket.
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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. Thank you for reading.