Today we are going to look at Avon Moldplast Limited (NSE:AVONMPL) to see whether it might be an attractive investment prospect. 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, we’ll go over how we calculate ROCE. Second, we’ll look at its ROCE compared to similar companies. Last but not least, we’ll look at what impact its current liabilities have on its ROCE.
Understanding 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. In general, businesses with a higher ROCE are usually better quality. 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 Avon Moldplast:
0.17 = ₹15m ÷ (₹157m – ₹72m) (Based on the trailing twelve months to March 2018.)
So, Avon Moldplast has an ROCE of 17%.
Does Avon Moldplast Have A Good ROCE?
One way to assess ROCE is to compare similar companies. Using our data, Avon Moldplast’s ROCE appears to be around the 17% average of the Consumer Durables industry. Independently of how Avon Moldplast compares to its industry, its ROCE in absolute terms appears decent, and the company may be worthy of closer investigation.
Our data shows that Avon Moldplast currently has an ROCE of 17%, compared to its ROCE of 7.9% 3 years ago. This makes us wonder if the company is improving.
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. ROCE is only a point-in-time measure. If Avon Moldplast is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.
Avon Moldplast’s Current Liabilities And Their Impact On 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. 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.
Avon Moldplast has total assets of ₹157m and current liabilities of ₹72m. Therefore its current liabilities are equivalent to approximately 46% of its total assets. With this level of current liabilities, Avon Moldplast’s ROCE is boosted somewhat.
What We Can Learn From Avon Moldplast’s ROCE
Avon Moldplast’s ROCE does look good, but the level of current liabilities also contribute to that. Avon Moldplast 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.