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Today we’ll evaluate Tikkurila Oyj (HEL:TIK1V) to determine whether it could have potential as an investment idea. 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 up, we’ll look at what ROCE is and how we calculate it. Next, we’ll compare it to others in its industry. And finally, we’ll look at how its current liabilities are impacting its ROCE.
What is Return On Capital Employed (ROCE)?
ROCE is a metric for evaluating how much pre-tax income (in percentage terms) a company earns on the capital invested in its business. Generally speaking a higher ROCE is better. In brief, it is a useful tool, but it is not without drawbacks. 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’.
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 Tikkurila Oyj:
0.14 = €31m ÷ (€400m – €169m) (Based on the trailing twelve months to December 2018.)
So, Tikkurila Oyj has an ROCE of 14%.
Is Tikkurila Oyj’s ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that Tikkurila Oyj’s ROCE is meaningfully better than the 9.4% average in the Chemicals industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Independently of how Tikkurila Oyj compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
Tikkurila Oyj’s current ROCE of 14% is lower than 3 years ago, when the company reported a 21% ROCE. So investors might consider if it has had issues recently.
When considering ROCE, bear in mind that it reflects the past and does not necessarily 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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Tikkurila Oyj.
How Tikkurila Oyj’s Current Liabilities Impact Its ROCE
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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.
Tikkurila Oyj has total liabilities of €169m and total assets of €400m. Therefore its current liabilities are equivalent to approximately 42% of its total assets. Tikkurila Oyj has a middling amount of current liabilities, increasing its ROCE somewhat.
The Bottom Line On Tikkurila Oyj’s ROCE
Tikkurila Oyj’s ROCE does look good, but the level of current liabilities also contribute to that. Tikkurila Oyj 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.
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 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.