Today we are going to look at Crompton Greaves Consumer Electricals Limited (NSE:CROMPTON) 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. And finally, we’ll look at how its current liabilities are impacting its ROCE.
Return On Capital Employed (ROCE): What is it?
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’.
How Do You Calculate Return On Capital Employed?
The formula for calculating the return on capital employed is:
Return on Capital Employed = Earnings Before Interest and Tax (EBIT) ÷ (Total Assets – Current Liabilities)
Or for Crompton Greaves Consumer Electricals:
0.47 = ₹5.7b ÷ (₹23b – ₹11b) (Based on the trailing twelve months to December 2018.)
Therefore, Crompton Greaves Consumer Electricals has an ROCE of 47%.
Is Crompton Greaves Consumer Electricals’s ROCE Good?
When making comparisons between similar businesses, investors may find ROCE useful. Using our data, we find that Crompton Greaves Consumer Electricals’s ROCE is meaningfully better than the 17% average in the Consumer Durables 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, Crompton Greaves Consumer Electricals’s ROCE in absolute terms currently looks quite high.
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. ROCE is, after all, simply a snap shot of a single year. What happens in the future is pretty important for investors, so we have prepared a free report on analyst forecasts for Crompton Greaves Consumer Electricals.
What Are Current Liabilities, And How Do They Affect Crompton Greaves Consumer Electricals’s ROCE?
Short term (or current) liabilities, are things like supplier invoices, overdrafts, or tax bills that 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Crompton Greaves Consumer Electricals has total assets of ₹23b and current liabilities of ₹11b. Therefore its current liabilities are equivalent to approximately 48% of its total assets. Crompton Greaves Consumer Electricals’s ROCE is boosted somewhat by its middling amount of current liabilities.
Our Take On Crompton Greaves Consumer Electricals’s ROCE
Still, it has a high ROCE, and may be an interesting prospect for further research. Of course you might be able to find a better stock than Crompton Greaves Consumer Electricals. So you may wish to see this free collection of other companies that have grown earnings strongly.
If you like to buy stocks alongside management, then you might just love this free list of companies. (Hint: insiders have been buying them).
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 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.