Today we are going to look at Sanwaria Consumer Limited (NSE:SANWARIA) to see whether it might be an attractive investment prospect. 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. Second, we’ll look at its ROCE compared to similar companies. Finally, we’ll look at how its current liabilities affect its ROCE.
What is 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 Sanwaria Consumer:
0.36 = ₹2.3b ÷ (₹17b – ₹11b) (Based on the trailing twelve months to March 2018.)
So, Sanwaria Consumer has an ROCE of 36%.
Does Sanwaria Consumer Have A Good ROCE?
One way to assess ROCE is to compare similar companies. In our analysis, Sanwaria Consumer’s ROCE is meaningfully higher than the 13% average in the Food industry. We would consider this a positive, as it suggests it is using capital more effectively than other similar companies. Putting aside its position relative to its industry for now, in absolute terms, Sanwaria Consumer’s ROCE is currently very good.
As we can see, Sanwaria Consumer currently has an ROCE of 36% compared to its ROCE 3 years ago, which was 19%. This makes us think the business might be improving.
When considering this metric, keep in mind that it is backwards looking, and not necessarily predictive. ROCE can be deceptive for cyclical businesses, as returns can look incredible in boom times, and terribly low in downturns. ROCE is, after all, simply a snap shot of a single year. You can check if Sanwaria Consumer has cyclical profits by looking at this free graph of past earnings, revenue and cash flow.
Sanwaria Consumer’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 counteract this, we check if a company has high current liabilities, relative to its total assets.
Sanwaria Consumer has total liabilities of ₹11b and total assets of ₹17b. Therefore its current liabilities are equivalent to approximately 64% of its total assets. Sanwaria Consumer’s high level of current liabilities boost the ROCE – but its ROCE is still impressive.
What We Can Learn From Sanwaria Consumer’s ROCE
So to us, the company is potentially worth investigating further. Of course, you might find a fantastic investment by looking at a few good candidates. So take a peek at this free list of companies with modest (or no) debt, trading on a P/E below 20.
I will like Sanwaria Consumer better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
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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.