Should NorCom Information Technology GmbH & Co. KGaA’s (ETR:NC5A) Weak Investment Returns Worry You?

Today we’ll look at NorCom Information Technology GmbH & Co. KGaA (ETR:NC5A) and reflect on its potential as an investment. 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 up, we’ll look at what ROCE is and how we calculate it. Next, we’ll compare it to others in its industry. Then we’ll determine how its current liabilities are affecting its ROCE.

Return On Capital Employed (ROCE): What is it?

ROCE is a measure of a company’s yearly pre-tax profit (its return), relative to the capital employed in the business. Generally speaking a higher ROCE is better. 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 NorCom Information Technology GmbH KGaA:

0.092 = €910k ÷ (€12m – €2.6m) (Based on the trailing twelve months to December 2018.)

So, NorCom Information Technology GmbH KGaA has an ROCE of 9.2%.

See our latest analysis for NorCom Information Technology GmbH KGaA

Is NorCom Information Technology GmbH KGaA’s ROCE Good?

ROCE is commonly used for comparing the performance of similar businesses. We can see NorCom Information Technology GmbH KGaA’s ROCE is meaningfully below the IT industry average of 13%. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Separate from NorCom Information Technology GmbH KGaA’s performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.

NorCom Information Technology GmbH KGaA’s current ROCE of 9.2% is lower than its ROCE in the past, which was 28%, 3 years ago. This makes us wonder if the business is facing new challenges.

XTRA:NC5A Past Revenue and Net Income, August 19th 2019
XTRA:NC5A Past Revenue and Net Income, August 19th 2019

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. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for NorCom Information Technology GmbH KGaA.

What Are Current Liabilities, And How Do They Affect NorCom Information Technology GmbH KGaA’s 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 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.

NorCom Information Technology GmbH KGaA has total assets of €12m and current liabilities of €2.6m. As a result, its current liabilities are equal to approximately 21% of its total assets. Low current liabilities are not boosting the ROCE too much.

The Bottom Line On NorCom Information Technology GmbH KGaA’s ROCE

With that in mind, NorCom Information Technology GmbH KGaA’s ROCE appears pretty good. There might be better investments than NorCom Information Technology GmbH KGaA 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.

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We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.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.