Today we’ll look at SORIL Infra Resources Limited (NSE:SORILINFRA) 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 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.
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. Overall, it is a valuable metric that has its flaws. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’
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 SORIL Infra Resources:
0.0063 = ₹17m ÷ (₹6.6b – ₹3.8b) (Based on the trailing twelve months to March 2019.)
So, SORIL Infra Resources has an ROCE of 0.6%.
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Is SORIL Infra Resources’s ROCE Good?
ROCE can be useful when making comparisons, such as between similar companies. We can see SORIL Infra Resources’s ROCE is meaningfully below the Commercial Services industry average of 12%. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Regardless of how SORIL Infra Resources stacks up against its industry, its ROCE in absolute terms is quite low (especially compared to a bank account). There are potentially more appealing investments elsewhere.
SORIL Infra Resources’s current ROCE of 0.6% is lower than its ROCE in the past, which was 25%, 3 years ago. So investors might consider if it has had issues recently.
Remember that this metric is backwards looking – it shows what has happened in the past, and does not accurately predict the future. Companies in cyclical industries can be difficult to understand using ROCE, as returns typically look high during boom times, and low during busts. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. You can check if SORIL Infra Resources has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.
SORIL Infra Resources’s Current Liabilities And Their Impact On 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. The ROCE equation subtracts current liabilities from capital employed, so a company with a lot of current liabilities appears to have less capital employed, and a higher ROCE than otherwise. To check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
SORIL Infra Resources has total assets of ₹6.6b and current liabilities of ₹3.8b. As a result, its current liabilities are equal to approximately 58% of its total assets. This is a fairly high level of current liabilities, boosting SORIL Infra Resources’s ROCE.
Our Take On SORIL Infra Resources’s ROCE
Unfortunately, its ROCE is also pretty low, so we are cautious about the stock. You might be able to find a better investment than SORIL Infra Resources. If you want a selection of possible winners, check out this free list of interesting companies that trade on a P/E below 20 (but have proven they can grow earnings).
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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.