Why We’re Not Keen On Open joint stock company Solikamsk magnesium works’s (MCX:MGNZ) 5.0% Return On Capital

Today we’ll look at Open joint stock company Solikamsk magnesium works (MCX:MGNZ) 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 up, we’ll look at what ROCE is and how we calculate it. 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 measures the ‘return’ (pre-tax profit) a company generates from capital employed in its business. Generally speaking a higher ROCE is better. In brief, it is a useful tool, but it is not without drawbacks. Author Edwin Whiting says to be careful when comparing the ROCE of different businesses, since ‘No two businesses are exactly alike.’

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 Solikamsk magnesium works:

0.05 = -RUруб503.0m ÷ (RUруб4.7b – RUруб699m) (Based on the trailing twelve months to September 2018.)

Therefore, Solikamsk magnesium works has an ROCE of 5.0%.

See our latest analysis for Solikamsk magnesium works

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Is Solikamsk magnesium works’s ROCE Good?

When making comparisons between similar businesses, investors may find ROCE useful. In this analysis, Solikamsk magnesium works’s ROCE appears meaningfully below the 8.1% average reported by the Metals and Mining industry. This could be seen as a negative, as it suggests some competitors may be employing their capital more efficiently. Independently of how Solikamsk magnesium works compares to its industry, its ROCE in absolute terms is low; especially compared to the ~8.4% available in government bonds. It is likely that there are more attractive prospects out there.

As we can see, Solikamsk magnesium works currently has an ROCE of 5.0% compared to its ROCE 3 years ago, which was 1.6%. This makes us think the business might be improving.

MISX:MGNZ Last Perf January 31st 19
MISX:MGNZ Last Perf January 31st 19

When considering ROCE, bear in mind that it reflects the past and does not necessarily 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. Given the industry it operates in, Solikamsk magnesium works could be considered cyclical. If Solikamsk magnesium works is cyclical, it could make sense to check out this free graph of past earnings, revenue and cash flow.

How Solikamsk magnesium works’s Current Liabilities Impact 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 counter this, investors can check if a company has high current liabilities relative to total assets.

Solikamsk magnesium works has total assets of RUруб4.7b and current liabilities of RUруб699m. Therefore its current liabilities are equivalent to approximately 15% of its total assets. With a very reasonable level of current liabilities, so the impact on ROCE is fairly minimal.

The Bottom Line On Solikamsk magnesium works’s ROCE

That’s not a bad thing, however Solikamsk magnesium works has a weak ROCE and may not be an attractive investment. 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.

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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 editorial-team@simplywallst.com.