Today we are going to look at Pilkington Deutschland AG (HMSE:FDD) to see whether it might be an attractive investment prospect. 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. Then we’ll compare its ROCE to similar companies. And finally, we’ll look at how its current liabilities are impacting its ROCE.
Understanding Return On Capital Employed (ROCE)
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. 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?
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 Pilkington Deutschland:
0.058 = €23m ÷ (€470m – €70m) (Based on the trailing twelve months to March 2019.)
So, Pilkington Deutschland has an ROCE of 5.8%.
Is Pilkington Deutschland’s ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. We can see Pilkington Deutschland’s ROCE is around the 7.0% average reported by the Building industry. Setting aside the industry comparison for now, Pilkington Deutschland’s ROCE is mediocre in absolute terms, considering the risk of investing in stocks versus the safety of a bank account. It is possible that there are more rewarding investments out there.
In our analysis, Pilkington Deutschland’s ROCE appears to be 5.8%, compared to 3 years ago, when its ROCE was 3.9%. This makes us wonder if the company is improving. You can click on the image below to see (in greater detail) how Pilkington Deutschland’s past growth compares to other companies.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is, after all, simply a snap shot of a single year. You can check if Pilkington Deutschland has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.
What Are Current Liabilities, And How Do They Affect Pilkington Deutschland’s 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Pilkington Deutschland has total assets of €470m and current liabilities of €70m. As a result, its current liabilities are equal to approximately 15% of its total assets. This is a modest level of current liabilities, which would only have a small effect on ROCE.
The Bottom Line On Pilkington Deutschland’s ROCE
With that in mind, we’re not overly impressed with Pilkington Deutschland’s ROCE, so it may not be the most appealing prospect. Of course, you might also be able to find a better stock than Pilkington Deutschland. So you may wish to see this free collection of other companies that have grown earnings strongly.
I will like Pilkington Deutschland better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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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