Today we’ll look at Powerful Technologies Limited (NSE:POWERFUL) and reflect on its potential as an investment. Specifically, we’re going to calculate its Return On Capital Employed (ROCE), in the hopes of getting some insight into the business.
First of all, we’ll work out how to calculate ROCE. Then we’ll compare its ROCE to similar companies. Then we’ll determine how its current liabilities are affecting its ROCE.
Understanding Return On Capital Employed (ROCE)
ROCE measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. All else being equal, a better business will have a higher ROCE. 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?
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 Powerful Technologies:
0.54 = ₹69m ÷ (₹310m – ₹184m) (Based on the trailing twelve months to March 2018.)
Therefore, Powerful Technologies has an ROCE of 54%.
Does Powerful Technologies Have A Good ROCE?
One way to assess ROCE is to compare similar companies. Using our data, we find that Powerful Technologies’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. Regardless of the industry comparison, in absolute terms, Powerful Technologies’s ROCE currently appears to be excellent.
Powerful Technologies has an ROCE of 54%, but it didn’t have an ROCE 3 years ago, since it was unprofitable. 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. 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 only a point-in-time measure. You can check if Powerful Technologies has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.
Powerful Technologies’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. 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 check the impact of this, we calculate if a company has high current liabilities relative to its total assets.
Powerful Technologies has total liabilities of ₹184m and total assets of ₹310m. As a result, its current liabilities are equal to approximately 59% of its total assets. Powerful Technologies boasts an attractive ROCE, even after considering the boost from high current liabilities.
Our Take On Powerful Technologies’s ROCE
So we would be interested in doing more research here — there may be an opportunity! But note: Powerful Technologies may not be the best stock to buy. So take a peek at this free list of interesting companies with strong recent earnings growth (and a P/E ratio below 20).
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 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.