Is Landi Renzo S.p.A. (BIT:LR) Struggling With Its 9.2% Return On Capital Employed?

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Today we are going to look at Landi Renzo S.p.A. (BIT:LR) 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 up, we'll look at what ROCE is and how we calculate it. Then we'll compare its ROCE to similar companies. Finally, we'll look at how its current liabilities affect 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. All else being equal, a better business will have a higher ROCE. Overall, it is a valuable metric that has its flaws. 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?

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 Landi Renzo:

0.092 = -€2.4m ÷ (€201m - €84m) (Based on the trailing twelve months to September 2018.)

So, Landi Renzo has an ROCE of 9.2%.

View our latest analysis for Landi Renzo

Does Landi Renzo Have A Good ROCE?

One way to assess ROCE is to compare similar companies. Using our data, Landi Renzo's ROCE appears to be significantly below the 12% average in the Auto Components industry. This performance is not ideal, as it suggests the company may not be deploying its capital as effectively as some competitors. Separate from how Landi Renzo stacks up against its industry, its ROCE in absolute terms is mediocre; relative to the returns on government bonds. Readers may find more attractive investment prospects elsewhere.

Landi Renzo has an ROCE of 9.2%, but it didn't have an ROCE 3 years ago, since it was unprofitable. That implies the business has been improving.

When considering ROCE, bear in mind that it reflects the past and does not necessarily predict the future. 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. Future performance is what matters, and you can see analyst predictions in our freereport on analyst forecasts for the company.

Do Landi Renzo's Current Liabilities Skew 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. 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.

Landi Renzo has total liabilities of €84m and total assets of €201m. Therefore its current liabilities are equivalent to approximately 42% of its total assets. Landi Renzo's middling level of current liabilities have the effect of boosting its ROCE a bit.

Our Take On Landi Renzo's ROCE

With this level of liabilities and a mediocre ROCE, there are potentially better investments out there. But note: Landi Renzo may not be the best stock to buy. So take a peek at this freelist of interesting companies with strong recent earnings growth (and a P/E ratio below 20).

I will like Landi Renzo better if I see some big insider buys. While we wait, check out this freelist of growing companies with considerable, recent, insider 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 editorial-team@simplywallst.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.