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Today we’ll evaluate Ryanair Holdings plc (ISE:RY4C) to determine whether it could have potential as an investment idea. 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 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. Ultimately, it is a useful but imperfect metric. 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 Ryanair Holdings:
0.14 = €1.3b ÷ (€13b – €4.1b) (Based on the trailing twelve months to March 2019.)
So, Ryanair Holdings has an ROCE of 14%.
Does Ryanair Holdings Have A Good ROCE?
One way to assess ROCE is to compare similar companies. It appears that Ryanair Holdings’s ROCE is fairly close to the Airlines industry average of 13%. Separate from Ryanair Holdings’s performance relative to its industry, its ROCE in absolute terms looks satisfactory, and it may be worth researching in more depth.
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 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 Ryanair Holdings.
What Are Current Liabilities, And How Do They Affect Ryanair Holdings’s ROCE?
Current liabilities are short term bills and invoices that need to be paid in 12 months or less. 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 counter this, investors can check if a company has high current liabilities relative to total assets.
Ryanair Holdings has total liabilities of €4.1b and total assets of €13b. Therefore its current liabilities are equivalent to approximately 31% of its total assets. Ryanair Holdings has a medium level of current liabilities, which would boost the ROCE.
The Bottom Line On Ryanair Holdings’s ROCE
Ryanair Holdings’s ROCE does look good, but the level of current liabilities also contribute to that. Ryanair Holdings 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.
If you are like me, then you will not want to miss this free list of growing companies that insiders are buying.
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 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. Thank you for reading.