Today we are going to look at Griffin Mining Limited (LON:GFM) to see whether it might be an attractive investment prospect. Specifically, we’re going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into 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. Finally, we’ll look at how its current liabilities affect 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. 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’.
So, How Do We Calculate ROCE?
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 Griffin Mining:
0.16 = US$36m ÷ (US$251m – US$35m) (Based on the trailing twelve months to December 2018.)
So, Griffin Mining has an ROCE of 16%.
Is Griffin Mining’s ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. Griffin Mining’s ROCE appears to be substantially greater than the 13% average in the Metals and Mining industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Independently of how Griffin Mining compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
Our data shows that Griffin Mining currently has an ROCE of 16%, compared to its ROCE of 2.8% 3 years ago. This makes us think about whether the company has been reinvesting shrewdly.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. 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. Given the industry it operates in, Griffin Mining could be considered cyclical. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Griffin Mining.
How Griffin Mining’s Current Liabilities Impact 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 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.
Griffin Mining has total assets of US$251m and current liabilities of US$35m. As a result, its current liabilities are equal to approximately 14% of its total assets. A fairly low level of current liabilities is not influencing the ROCE too much.
What We Can Learn From Griffin Mining’s ROCE
This is good to see, and with a sound ROCE, Griffin Mining could be worth a closer look. Griffin Mining looks strong on this analysis, but there are plenty of other companies that could be a good opportunity . Here is a free list of companies growing earnings rapidly.
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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.