Today we’ll evaluate Chambal Fertilisers and Chemicals Limited (NSE:CHAMBLFERT) to determine whether it could have potential as an investment idea. 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. Then we’ll compare its ROCE to similar companies. Last but not least, we’ll look at what impact its current liabilities have on its ROCE.
What is 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. All else being equal, a better business will have a higher ROCE. 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?
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 Chambal Fertilisers and Chemicals:
0.13 = ₹7.9b ÷ (₹95b – ₹33b) (Based on the trailing twelve months to March 2018.)
So, Chambal Fertilisers and Chemicals has an ROCE of 13%.
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Is Chambal Fertilisers and Chemicals’s ROCE Good?
ROCE is commonly used for comparing the performance of similar businesses. We can see Chambal Fertilisers and Chemicals’s ROCE is meaningfully below the Chemicals industry average of 17%. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Separate from how Chambal Fertilisers and Chemicals stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Investors may wish to consider higher-performing investments.
It is important to remember that ROCE shows past performance, and is 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. This is because ROCE only looks at one year, instead of considering returns across a whole cycle. Future performance is what matters, and you can see analyst predictions in our free report on analyst forecasts for the company.
Do Chambal Fertilisers and Chemicals’s Current Liabilities Skew Its 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.
Chambal Fertilisers and Chemicals has total liabilities of ₹33b and total assets of ₹95b. As a result, its current liabilities are equal to approximately 35% of its total assets. Chambal Fertilisers and Chemicals’s ROCE is improved somewhat by its moderate amount of current liabilities.
The Bottom Line On Chambal Fertilisers and Chemicals’s ROCE
Unfortunately, its ROCE is still uninspiring, and there are potentially more attractive prospects out there. Of course you might be able to find a better stock than Chambal Fertilisers and Chemicals. So you may wish to see this free collection of other companies that have grown earnings strongly.
I will like Chambal Fertilisers and Chemicals better if I see some big insider buys. While we wait, check out this free list of growing companies with considerable, recent, insider buying.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.