Today we’ll look at UP Global Sourcing Holdings plc (LON:UPGS) and reflect on its potential as an investment. 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 of all, we’ll work out how to calculate ROCE. Second, we’ll look at its ROCE compared 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 amount of pre-tax profits a company can generate from the capital employed in its business. All else being equal, a better business will have a higher ROCE. In the end, ROCE 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?
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 UP Global Sourcing Holdings:
0.54 = UK£5.8m ÷ (UK£35m – UK£24m) (Based on the trailing twelve months to July 2018.)
Therefore, UP Global Sourcing Holdings has an ROCE of 54%.
View our latest analysis for UP Global Sourcing Holdings
Does UP Global Sourcing Holdings Have A Good ROCE?
ROCE is commonly used for comparing the performance of similar businesses. In our analysis, UP Global Sourcing Holdings’s ROCE is meaningfully higher than the 16% average in the Retail Distributors industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Setting aside the comparison to its industry for a moment, UP Global Sourcing Holdings’s ROCE in absolute terms currently looks quite high.
Our data shows that UP Global Sourcing Holdings currently has an ROCE of 54%, compared to its ROCE of 35% 3 years ago. This makes us wonder if the company is improving.
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 only a point-in-time measure. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for UP Global Sourcing Holdings.
How UP Global Sourcing Holdings’s Current Liabilities Impact 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 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 counter this, investors can check if a company has high current liabilities relative to total assets.
UP Global Sourcing Holdings has total liabilities of UK£24m and total assets of UK£35m. As a result, its current liabilities are equal to approximately 69% of its total assets. UP Global Sourcing Holdings’s high level of current liabilities boost the ROCE – but its ROCE is still impressive.
The Bottom Line On UP Global Sourcing Holdings’s ROCE
In my book, this business could be worthy of further research. I am always impressed by a high ROCE, but you also must consider other factors. For example you might check if insiders are buying shares.
If you would prefer check out another company — one with potentially superior financials — then do not miss this free list of interesting companies, that have HIGH return on equity and low debt.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.